If you itemize your deductions on Form 1040, Schedule A, you may be able to deduct expenses you paid in 2010 for medical care – including dental – for yourself, your spouse, and your dependents. Here are six things the IRS wants you to know about medical and dental expenses and other benefits.
1. You may deduct only the amount by which your total medical care expenses for the year exceed 7.5 percent of your adjusted gross income. You do this calculation on Form 1040, Schedule A in computing the amount deductible.
2. You can only include the medical expenses you paid during the year. Your total medical expenses for the year must be reduced by any reimbursement. It makes no difference if you receive the reimbursement or if it is paid directly to the doctor or hospital.
3. You may include qualified medical expenses you pay for yourself, your spouse, and your dependents, including a person you claim as a dependent under a multiple support agreement. If either parent claims a child as a dependent under the rules for divorced or separated parents, each parent may deduct the medical expenses he or she actually pays for the child. You can also deduct medical expenses you paid for someone who would have qualified as your dependent except that the person didn't meet the gross income or joint return test.
4. A deduction is allowed only for expenses primarily paid for the prevention or alleviation of a physical or mental defect or illness. Medical care expenses include payments for the diagnosis, cure, mitigation, treatment, or prevention of disease, or treatment affecting any structure or function of the body. The cost of drugs is deductible only for drugs that require a prescription except for insulin.
5. You may deduct transportation costs primarily for and essential to medical care that qualify as medical expenses. The actual fare for a taxi, bus, train, or ambulance may be deducted. If you use your car for medical transportation, you can deduct actual out-of-pocket expenses such as gas and oil, or you can deduct the standard mileage rate for medical expenses. With either method you may include tolls and parking fees.
6. Distributions from Health Savings Accounts and withdrawals from Flexible Spending Arrangements may be tax free if you pay qualified medical expenses.
For additional information on medical deductions and benefits, see Publication 502, Medical and Dental Expenses or Publication 969, Health Savings Accounts and Other Tax-Favored Health Plans, available at http://www.irs.gov or by calling 800-TAX-FORM (800-829-3676).
Monday, January 31, 2011
The Estate Tax: What You Need to Do
Even if you can't or don't want to make large gifts now that the government has expanded the gift-tax and estate-tax exemptions to $5 million, experts urge reviewing your will—especially if it has one or more trusts.
Over the past 26 months four sets of estate-tax rules have been in effect, with the individual exemption bouncing from $2 million (2008) to $3.5 million (2009) to unlimited (2010) to $5 million (2011).
Most worrisome are what is known as "formula clauses." These are provisions tying bequests to the amount of the estate-tax exemption, and in the past attorneys used them to maximize the amount a couple could pass on tax-free. Through 2009, the value of one exemption was lost if assets passed directly to a surviving spouse.
The trouble arises because this year's $5 million exemption is a far cry from, say, the $1.5 million level of 2005, and it was unexpected until this past December. So if a spouse dies this year with a $3 million estate and unchanged formula clauses, a surviving spouse might get nothing outright because all assets would go into a trust.
Another profound change in the new estate rules, called "portability," has long been sought by American Institute of CPAs, and many hope it stays in the law even if rates or exemptions change after 2012. Portability allows each partner of a married couple to use the rest of the other's estate-tax exemption. It especially eases planning when one spouse has a large, indivisible asset.
Example: David's assets include an interest in several businesses worth $3.5 million and a $2.5 million individual retirement account. His wife Kathy has assets of her own worth $1.2 million. Under that old law, planners would have had a hard time equalizing assets (IRAs have only one owner) to take advantage of the couple's current $10 million exemption. Portability means that if Kathy died this year, her unused exemption would be reserved for use at David's death. If David died this year, there is no problem, either.
Although portability eases post-death planning and may eliminate the need for trusts, especially for couples with assets well below $10 million, enough wrinkles remain on cost basis and other issues that estate planners aren't likely to starve. And tax writers did include what some are calling the "black widow provision," which prohibits a taxpayer from piling up many $5 million exemptions through serial marriages.
--Laura Saunders
Over the past 26 months four sets of estate-tax rules have been in effect, with the individual exemption bouncing from $2 million (2008) to $3.5 million (2009) to unlimited (2010) to $5 million (2011).
Most worrisome are what is known as "formula clauses." These are provisions tying bequests to the amount of the estate-tax exemption, and in the past attorneys used them to maximize the amount a couple could pass on tax-free. Through 2009, the value of one exemption was lost if assets passed directly to a surviving spouse.
The trouble arises because this year's $5 million exemption is a far cry from, say, the $1.5 million level of 2005, and it was unexpected until this past December. So if a spouse dies this year with a $3 million estate and unchanged formula clauses, a surviving spouse might get nothing outright because all assets would go into a trust.
Another profound change in the new estate rules, called "portability," has long been sought by American Institute of CPAs, and many hope it stays in the law even if rates or exemptions change after 2012. Portability allows each partner of a married couple to use the rest of the other's estate-tax exemption. It especially eases planning when one spouse has a large, indivisible asset.
Example: David's assets include an interest in several businesses worth $3.5 million and a $2.5 million individual retirement account. His wife Kathy has assets of her own worth $1.2 million. Under that old law, planners would have had a hard time equalizing assets (IRAs have only one owner) to take advantage of the couple's current $10 million exemption. Portability means that if Kathy died this year, her unused exemption would be reserved for use at David's death. If David died this year, there is no problem, either.
Although portability eases post-death planning and may eliminate the need for trusts, especially for couples with assets well below $10 million, enough wrinkles remain on cost basis and other issues that estate planners aren't likely to starve. And tax writers did include what some are calling the "black widow provision," which prohibits a taxpayer from piling up many $5 million exemptions through serial marriages.
--Laura Saunders
How Risky is Your Trust?
People often restrict gifts by placing them in trusts in order to control use, maximize value or provide creditor protection. Trusts can be funded with a variety of assets, from homes to life insurance to shares in family limited partnerships. As new laws have made gifts more attractive, here is a guide to commonly used trusts.
—Anne Tergesen
STRATEGY: Charitable Lead Annuity Trust
* DESCRIPTION: These can be set up in life or at death; they make annual income payments to charity for a set term. The remainder goes to heirs. Tax treatment depends on whether the donor claims a charitable deduction; low current interest rates help donors reduce gift taxes. RISK RATING: Green
STRATEGY: Credit-Shelter Trust
* DESCRIPTION: A couple sets up one for each spouse, ensuring that heirs benefit from the full estate-tax exemption for both partners. Under pre-2010 law, if a surviving spouse inherited all the partner's assets outright, the heirs could lose the benefit of the first spouse's exemption without a creditshelter trust. They can still make sense under current law. RISK RATING: Green
STRATEGY: Dynasty Trust
* DESCRIPTION: Twenty-eight states plus Washington, D.C., permit irrevocable trusts with in-state trustees to endure for generations, and perhaps forever. If structured properly, such trusts can avoid estate or generation-skipping taxes. RISK RATING: Green
STRATEGY: Grantor Retained Annuity Trust
* DESCRIPTION: Over a preset term, these return principal to the giver. If the asset appreciates, the trust pays the donor a preset interest payment; extra appreciation is tax-free to beneficiaries. GRATs are appropriate for donors who don't want to part with principal or those who want to transfer more than their individual exemption, as they can be structured with no gift-tax consequences. RISK RATING: Green
STRATEGY: Grantor Trust
* DESCRIPTION: Grantor trusts allow donors to pay capital gains and income taxes on investments in the trust on behalf of beneficiaries. Because the IRS doesn't consider these payments a gift, they can be a good way to transfer wealth. RISK RATING: Green
STRATEGY: Qualified Personal Residence Trust
* DESCRIPTION: Donors may give a home to beneficiaries at a discount to current market value and also transfer future appreciation free of taxes. The donor remains the home's owner for the trust's term. After that he or she must move or pay rent, which can be another way to give more to heirs. RISK RATING: Green
STRATEGY: Qualified Terminable Interest Property Trust
* DESCRIPTION: Often used by those with children from a prior marriage, these trusts provide a surviving spouse with income, and sometimes principal, free of estate tax. The donor retains control over who inherits the remaining assets after the survivor dies; those assets are then subject to estate tax. RISK RATING: Green
STRATEGY: Sale to an Intentionally Defective Grantor Trust
* DESCRIPTION: A way to transfer more than $5 million per individual to heirs. The donor starts a trust with a gift and then lends it up to 10 times more to buy an asset. As long as the asset appreciates, the trust can cover the loan, with what is left going to the beneficiaries. Risk: not explicitly allowed by the tax code, and the IRS sometimes challenges them. RISK RATING: Yellow
STRATEGY: Spousal-Access Trust
* DESCRIPTION: Some planners advise those who are worried about making irrevocable gifts to name a spouse as beneficiary, in addition to other heirs. Risks: divorce; trustee denial of spousal payouts; and IRS scrutiny if spousal payments are too predictable. RISK RATING: Yellow
STRATEGY: Self-Settled Trust
* DESCRIPTION: These provide trustees the discretion to distribute assets to the donor. If properly structured and located in a favorable jurisdiction, the trust can be excluded from the donor's estate, says Jonathan Blattmachr, director of estate planning for the Alaska Trust Co. Risk: The sole authority is a nonbinding IRS letter ruling. RISK RATING: Red
Source: WSJ research
—Anne Tergesen
STRATEGY: Charitable Lead Annuity Trust
* DESCRIPTION: These can be set up in life or at death; they make annual income payments to charity for a set term. The remainder goes to heirs. Tax treatment depends on whether the donor claims a charitable deduction; low current interest rates help donors reduce gift taxes. RISK RATING: Green
STRATEGY: Credit-Shelter Trust
* DESCRIPTION: A couple sets up one for each spouse, ensuring that heirs benefit from the full estate-tax exemption for both partners. Under pre-2010 law, if a surviving spouse inherited all the partner's assets outright, the heirs could lose the benefit of the first spouse's exemption without a creditshelter trust. They can still make sense under current law. RISK RATING: Green
STRATEGY: Dynasty Trust
* DESCRIPTION: Twenty-eight states plus Washington, D.C., permit irrevocable trusts with in-state trustees to endure for generations, and perhaps forever. If structured properly, such trusts can avoid estate or generation-skipping taxes. RISK RATING: Green
STRATEGY: Grantor Retained Annuity Trust
* DESCRIPTION: Over a preset term, these return principal to the giver. If the asset appreciates, the trust pays the donor a preset interest payment; extra appreciation is tax-free to beneficiaries. GRATs are appropriate for donors who don't want to part with principal or those who want to transfer more than their individual exemption, as they can be structured with no gift-tax consequences. RISK RATING: Green
STRATEGY: Grantor Trust
* DESCRIPTION: Grantor trusts allow donors to pay capital gains and income taxes on investments in the trust on behalf of beneficiaries. Because the IRS doesn't consider these payments a gift, they can be a good way to transfer wealth. RISK RATING: Green
STRATEGY: Qualified Personal Residence Trust
* DESCRIPTION: Donors may give a home to beneficiaries at a discount to current market value and also transfer future appreciation free of taxes. The donor remains the home's owner for the trust's term. After that he or she must move or pay rent, which can be another way to give more to heirs. RISK RATING: Green
STRATEGY: Qualified Terminable Interest Property Trust
* DESCRIPTION: Often used by those with children from a prior marriage, these trusts provide a surviving spouse with income, and sometimes principal, free of estate tax. The donor retains control over who inherits the remaining assets after the survivor dies; those assets are then subject to estate tax. RISK RATING: Green
STRATEGY: Sale to an Intentionally Defective Grantor Trust
* DESCRIPTION: A way to transfer more than $5 million per individual to heirs. The donor starts a trust with a gift and then lends it up to 10 times more to buy an asset. As long as the asset appreciates, the trust can cover the loan, with what is left going to the beneficiaries. Risk: not explicitly allowed by the tax code, and the IRS sometimes challenges them. RISK RATING: Yellow
STRATEGY: Spousal-Access Trust
* DESCRIPTION: Some planners advise those who are worried about making irrevocable gifts to name a spouse as beneficiary, in addition to other heirs. Risks: divorce; trustee denial of spousal payouts; and IRS scrutiny if spousal payments are too predictable. RISK RATING: Yellow
STRATEGY: Self-Settled Trust
* DESCRIPTION: These provide trustees the discretion to distribute assets to the donor. If properly structured and located in a favorable jurisdiction, the trust can be excluded from the donor's estate, says Jonathan Blattmachr, director of estate planning for the Alaska Trust Co. Risk: The sole authority is a nonbinding IRS letter ruling. RISK RATING: Red
Source: WSJ research
The $5 Million Tax Break
Congress has set sweet new terms for the gift tax, and families are tearing up their estate plans to take advantage. Here's what you need to know.
By ANNE TERGESEN and LAURA SAUNDERS
Largely lost amid all the political drama surrounding December's historic tax legislation was a sweet deal for families.
For the next two years, the gift-tax exemption jumps to $5 million from $1 million for individuals and to $10 million from $2 million for couples—meaning people can give away that much without paying a penny in taxes.
What's more, the tax rate on gifts above those amounts fell to 35% from a scheduled 55%, a boon to ultrawealthy people who want to give away even more money.
Washington's unexpected largess is prompting many taxpayers to throw away their estate plans and craft new ones before the favorable terms expire. But while anyone with significant assets should consider retooling their strategies, there are many important considerations, financial and emotional alike.
The gift tax has long been a feature of the U.S. system. It is linked with the estate tax, in order to prevent the wealthy from draining their estates before death to avoid levies. Over time, gift-tax rates have often tracked those of estate taxes, but in recent years the exemption has usually been far lower—which discouraged people from making big gifts. (This exemption is separate from the annual gift exclusion, currently $13,000.)
The current gift-tax break could affect a broad swath of American families. According to the most recent Federal Reserve Survey of Consumer Finances, in 2007, 5.4 million households had net worth of $2 million or more.
Ray Maggi is taking advantage already. Coming from modest beginnings, Mr. Maggi, 69 years old, worked for decades to amass considerable wealth by building a successful real-estate company in which he is still active. Now he is about to give much of his firm to his two children and two grandchildren.
"This is a golden window to move as much out of our estate as we can," says Mr. Maggi, the founder of MPMS Inc., which owns and manages apartments in Orange County, Calif. "Why should a guy who worked long hours and took a lot of risk have to pay tax on what he wants to pass to his children?"
Congress also changed the rules on estate taxes last year, raising the exemption to $5 million and lowering the rate to 35%, also for two years. Taken together, the new estate and gift rates are the most generous since 1931, according to tax historian Joseph Thorndike. (See "The Estate Tax: What You Need to Do," left.)
The new rules provide many reasons for people to consider making hefty gifts—soon.
Most important for people like Mr. Maggi, the recent changes align estate, gift and generation-skipping taxes, which are imposed when givers try to avoid layers of estate tax by leaving assets to heirs two or more generations removed. That means a married couple can "spend" their combined $10 million exemption to avoid a combination of the three taxes.
Defying the expectations of tax experts, lawmakers also refrained from restricting several specialized techniques that can help people amplify the size of their gifts. (See "How Risky Is Your Trust?", right).
There may be reason to act swiftly: While many hope lawmakers will extend the current regime beyond 2012, other events—such as a debt crisis—could render the tax breaks temporary.
State taxes, which always are a worry, present little problem here: Only Tennessee and Connecticut impose gift taxes.
This combination of factors—future uncertainty plus big current exemptions plus leverage techniques plus no state gift tax—seems almost designed to encourage large gifts to heirs.
"In the next two years, wealthy people have an unprecedented opportunity to push a lot of the value of their assets out of the estate-tax system," says Philip Kavesh, an attorney at Kavesh, Minor & Otis in Torrance, Calif.
The open window for gifts raises gnarly questions for taxpayers, however. The most obvious: who is wealthy enough to need to benefit from the new gift-tax rules? Experts say the answer varies, but that people with assets approaching the current $5 million or $10 million exemptions should think hard. Making the gift now, tax-free, shields future appreciation from taxes.
"If you are single with assets of $4 million or more, or married with $8 million or more, you should definitely look at making gifts," Mr. Kavesh says.
Below that level, making gifts still could be a smart tax move for people who might get caught if the individual estate exemption drops back to $3.5 million (its 2009 level) or even $1 million, as the 2013 law now stands.
Another crucial factor is potential growth: The faster an asset is appreciating, the more it can make sense to move it out of one's estate, now that giving is easier. Some also may want to put "sacred family assets"—a beloved vacation home or pieces of furniture, art or jewelry—into trusts to preserve them for future generations.
Beyond the level of your assets, there are emotional issues to consider. How does it feel to part with an asset, especially one the owner has worked a lifetime to build? And how will gifts affect their recipients, for better or worse? After all, William Shakespeare's bloody tragedy "King Lear" begins when a father gives his kingdom to his daughters, so that he may "unburdened crawl toward death."
In the past, planners have focused on tax strategies, but with higher exemptions the question of how much control a giver is willing to cede comes to the fore. "It becomes a more emotionally driven decision," says John Dadakis, an attorney at Holland & Knight in New York.
Estate expert Howard Zaritsky, a consultant attorney in Rapidan, Va., is even blunter on the subject of gifts, warning not to concentrate on "tax home runs" at the expense of more important factors. "I used to tell my clients, 'You will not get the money back, your heirs won't write you a thank-you note, and you won't approve of how they spend the money.'"
Different people will come to different decisions, of course. Randy Beeman, a 53-year-old managing director of the Wise Investor Group in Reston, Va., says he is unlikely to make huge gifts now to a trust he set up for his daughter, 13, even though it might make sense tax-wise.
"I grew up without anything myself," he says. "While I want to provide for my daughter, I don't want to make things too easy for her." Instead he is contemplating making gifts to nieces, nephews and cousins for education expenses.
If you are in the Maggi camp, and want to exploit the new rules, there are other issues to keep in mind.
First, what happens to gifts made now if the exemption drops in the future? The answer is unclear. Congress might grandfather past gifts, or the law might "claw back" gifts greater than the exemption at the time the donor dies. But such a reversion would exempt any income or appreciation that occurs after the gift date, say experts.
Also be aware of the traditional tax drawbacks of gifts. Unlike assets left in an estate, the giver's original "cost basis" carries over to the recipient. (If left in an estate, an asset's cost basis rises to full market value at death.) If an asset is put in trust, the trust will owe income tax at the highest rates starting at a very low level (currently 35% at $11,200).
Most people making a big financial gift choose to set up trusts, either to preserve control of the asset—and prevent Junior from squandering it on sports cars—or to magnify the gift using special techniques. But there are drawbacks.
Givers often need to use an institution as the trustee, especially when the trust will run for decades. But institutional trustees can charge hefty fees or move slowly, with a costly memo to the file for every phone call. Does your granddaughter need money from the trust to help pay for a wedding? A committee may have to decide how much is appropriate, charging the trust for its time.
For his part, Mr. Maggi has no hesitation about parting with his entire exemption, and he is using techniques to amplify it. His plan shows just how complicated the strategies can get, requiring sophisticated legal help.
The setup involves an existing trust, a sale of shares in his privately held property at a large discount, and a loan from Mr. Maggi—among other things. And it depends in part on his business's cash flow holding up. There are other tax-saving moves as well.
Such elaborate maneuvering isn't for the timid, but Mr. Maggi is on a mission: "I'm going to get as much as possible to my kids."
By ANNE TERGESEN and LAURA SAUNDERS
Largely lost amid all the political drama surrounding December's historic tax legislation was a sweet deal for families.
For the next two years, the gift-tax exemption jumps to $5 million from $1 million for individuals and to $10 million from $2 million for couples—meaning people can give away that much without paying a penny in taxes.
What's more, the tax rate on gifts above those amounts fell to 35% from a scheduled 55%, a boon to ultrawealthy people who want to give away even more money.
Washington's unexpected largess is prompting many taxpayers to throw away their estate plans and craft new ones before the favorable terms expire. But while anyone with significant assets should consider retooling their strategies, there are many important considerations, financial and emotional alike.
The gift tax has long been a feature of the U.S. system. It is linked with the estate tax, in order to prevent the wealthy from draining their estates before death to avoid levies. Over time, gift-tax rates have often tracked those of estate taxes, but in recent years the exemption has usually been far lower—which discouraged people from making big gifts. (This exemption is separate from the annual gift exclusion, currently $13,000.)
The current gift-tax break could affect a broad swath of American families. According to the most recent Federal Reserve Survey of Consumer Finances, in 2007, 5.4 million households had net worth of $2 million or more.
Ray Maggi is taking advantage already. Coming from modest beginnings, Mr. Maggi, 69 years old, worked for decades to amass considerable wealth by building a successful real-estate company in which he is still active. Now he is about to give much of his firm to his two children and two grandchildren.
"This is a golden window to move as much out of our estate as we can," says Mr. Maggi, the founder of MPMS Inc., which owns and manages apartments in Orange County, Calif. "Why should a guy who worked long hours and took a lot of risk have to pay tax on what he wants to pass to his children?"
Congress also changed the rules on estate taxes last year, raising the exemption to $5 million and lowering the rate to 35%, also for two years. Taken together, the new estate and gift rates are the most generous since 1931, according to tax historian Joseph Thorndike. (See "The Estate Tax: What You Need to Do," left.)
The new rules provide many reasons for people to consider making hefty gifts—soon.
Most important for people like Mr. Maggi, the recent changes align estate, gift and generation-skipping taxes, which are imposed when givers try to avoid layers of estate tax by leaving assets to heirs two or more generations removed. That means a married couple can "spend" their combined $10 million exemption to avoid a combination of the three taxes.
Defying the expectations of tax experts, lawmakers also refrained from restricting several specialized techniques that can help people amplify the size of their gifts. (See "How Risky Is Your Trust?", right).
There may be reason to act swiftly: While many hope lawmakers will extend the current regime beyond 2012, other events—such as a debt crisis—could render the tax breaks temporary.
State taxes, which always are a worry, present little problem here: Only Tennessee and Connecticut impose gift taxes.
This combination of factors—future uncertainty plus big current exemptions plus leverage techniques plus no state gift tax—seems almost designed to encourage large gifts to heirs.
"In the next two years, wealthy people have an unprecedented opportunity to push a lot of the value of their assets out of the estate-tax system," says Philip Kavesh, an attorney at Kavesh, Minor & Otis in Torrance, Calif.
The open window for gifts raises gnarly questions for taxpayers, however. The most obvious: who is wealthy enough to need to benefit from the new gift-tax rules? Experts say the answer varies, but that people with assets approaching the current $5 million or $10 million exemptions should think hard. Making the gift now, tax-free, shields future appreciation from taxes.
"If you are single with assets of $4 million or more, or married with $8 million or more, you should definitely look at making gifts," Mr. Kavesh says.
Below that level, making gifts still could be a smart tax move for people who might get caught if the individual estate exemption drops back to $3.5 million (its 2009 level) or even $1 million, as the 2013 law now stands.
Another crucial factor is potential growth: The faster an asset is appreciating, the more it can make sense to move it out of one's estate, now that giving is easier. Some also may want to put "sacred family assets"—a beloved vacation home or pieces of furniture, art or jewelry—into trusts to preserve them for future generations.
Beyond the level of your assets, there are emotional issues to consider. How does it feel to part with an asset, especially one the owner has worked a lifetime to build? And how will gifts affect their recipients, for better or worse? After all, William Shakespeare's bloody tragedy "King Lear" begins when a father gives his kingdom to his daughters, so that he may "unburdened crawl toward death."
In the past, planners have focused on tax strategies, but with higher exemptions the question of how much control a giver is willing to cede comes to the fore. "It becomes a more emotionally driven decision," says John Dadakis, an attorney at Holland & Knight in New York.
Estate expert Howard Zaritsky, a consultant attorney in Rapidan, Va., is even blunter on the subject of gifts, warning not to concentrate on "tax home runs" at the expense of more important factors. "I used to tell my clients, 'You will not get the money back, your heirs won't write you a thank-you note, and you won't approve of how they spend the money.'"
Different people will come to different decisions, of course. Randy Beeman, a 53-year-old managing director of the Wise Investor Group in Reston, Va., says he is unlikely to make huge gifts now to a trust he set up for his daughter, 13, even though it might make sense tax-wise.
"I grew up without anything myself," he says. "While I want to provide for my daughter, I don't want to make things too easy for her." Instead he is contemplating making gifts to nieces, nephews and cousins for education expenses.
If you are in the Maggi camp, and want to exploit the new rules, there are other issues to keep in mind.
First, what happens to gifts made now if the exemption drops in the future? The answer is unclear. Congress might grandfather past gifts, or the law might "claw back" gifts greater than the exemption at the time the donor dies. But such a reversion would exempt any income or appreciation that occurs after the gift date, say experts.
Also be aware of the traditional tax drawbacks of gifts. Unlike assets left in an estate, the giver's original "cost basis" carries over to the recipient. (If left in an estate, an asset's cost basis rises to full market value at death.) If an asset is put in trust, the trust will owe income tax at the highest rates starting at a very low level (currently 35% at $11,200).
Most people making a big financial gift choose to set up trusts, either to preserve control of the asset—and prevent Junior from squandering it on sports cars—or to magnify the gift using special techniques. But there are drawbacks.
Givers often need to use an institution as the trustee, especially when the trust will run for decades. But institutional trustees can charge hefty fees or move slowly, with a costly memo to the file for every phone call. Does your granddaughter need money from the trust to help pay for a wedding? A committee may have to decide how much is appropriate, charging the trust for its time.
For his part, Mr. Maggi has no hesitation about parting with his entire exemption, and he is using techniques to amplify it. His plan shows just how complicated the strategies can get, requiring sophisticated legal help.
The setup involves an existing trust, a sale of shares in his privately held property at a large discount, and a loan from Mr. Maggi—among other things. And it depends in part on his business's cash flow holding up. There are other tax-saving moves as well.
Such elaborate maneuvering isn't for the timid, but Mr. Maggi is on a mission: "I'm going to get as much as possible to my kids."
How to Barter Without Getting Audited
As a child, I always found it odd when I’d answer the door and in front of me stood a white-haired man in ripped jeans and a dirt-laden T-shirt holding a carton of straight-from-the-farm eggs. This would happen every few months. Turns out, my dad, a physician, was in a barter agreement with this man, a local farmer. A check-up equaled a dozen eggs, and sometimes a squash or carrot thrown in as an extra special treat.
The act of trading goods and services may be as old as time, but it is spiking in popularity as of late.
“Bartering is getting really big right now because people don’t have cash,” says Carolann Jacobs, president of Vivid Epiphany, a business coaching consultancy based in Plano, Texas.
So let's say you are a dentist and your dog needs walking. You trade services, don’t exchange money, and the deal is done, no strings attached, right?
Wrong.
“Not reporting your barter income can easily lead to an audit by the IRS,” says Roger C. Sims, a CPA in Carrollton, Texas.
Here’s how to avoid an audit:
Document everything
Barter agreements work the same way as cash agreements, Sims explains, and need to be documented in kind.
“Report your barter income on your tax return and label it ‘barter revenue,’” he recommends. “Full disclosure is always best. Your barter income is taxable. Make sure to report what you would have received in cash.”
For example, if Sims bartered $100 worth of his CPA services for $100 worth of window washing for his office, he would need to report $100 to the IRS because that is the amount he would have been paid if the transaction wasn’t a barter.
“Report your barter income on your revenue line,” he advises.
Make it legal
In addition to reporting barter income on your tax return, Sims advises business owners to create legal documents for each barter transaction.
“Create a document that explains the barter agreement and then make sure both parties sign that document,” he says.
Hire an outside firm
Fortunately, there is help for small business owners who don’t know whom to barter with and/or want to avoid a dreaded call from the IRS. Companies such as ITEX help to initiate what is called ‘modern barter exchanges.’
“Our members do business with each other, but they use ITEX dollars instead of cash,” explains Jeff Weaver, membership development director for ITEX in Dallas. “We collect a transaction fee on their sales and purchases.”
While direct barters can often be accidental and result in uneven exchanges ($200 of dentist work for $50 of window cleaning), modern barter companies help eliminate discrepancies and keep transactions legit with the IRS.
“Someone usually gets screwed in an informal barter situation,” Weaver says. “We help facilitate the process in an easy way.”
Other modern barter exchange companies include IMS, Barter Network and BizXchange.
Get informed
Perhaps the best way to protect your company from a barter-induced audit is to know the facts.
Great resources include the IRS Tax Requirements for Barter Exchanges, National Association of Trade Exchanges and International Reciprocal Trade Association.
Katie Morell is Chicago-based writer and frequent OPEN Forum contributor. She regularly contributes business, feature and travel articles to national and regional publications.
The act of trading goods and services may be as old as time, but it is spiking in popularity as of late.
“Bartering is getting really big right now because people don’t have cash,” says Carolann Jacobs, president of Vivid Epiphany, a business coaching consultancy based in Plano, Texas.
So let's say you are a dentist and your dog needs walking. You trade services, don’t exchange money, and the deal is done, no strings attached, right?
Wrong.
“Not reporting your barter income can easily lead to an audit by the IRS,” says Roger C. Sims, a CPA in Carrollton, Texas.
Here’s how to avoid an audit:
Document everything
Barter agreements work the same way as cash agreements, Sims explains, and need to be documented in kind.
“Report your barter income on your tax return and label it ‘barter revenue,’” he recommends. “Full disclosure is always best. Your barter income is taxable. Make sure to report what you would have received in cash.”
For example, if Sims bartered $100 worth of his CPA services for $100 worth of window washing for his office, he would need to report $100 to the IRS because that is the amount he would have been paid if the transaction wasn’t a barter.
“Report your barter income on your revenue line,” he advises.
Make it legal
In addition to reporting barter income on your tax return, Sims advises business owners to create legal documents for each barter transaction.
“Create a document that explains the barter agreement and then make sure both parties sign that document,” he says.
Hire an outside firm
Fortunately, there is help for small business owners who don’t know whom to barter with and/or want to avoid a dreaded call from the IRS. Companies such as ITEX help to initiate what is called ‘modern barter exchanges.’
“Our members do business with each other, but they use ITEX dollars instead of cash,” explains Jeff Weaver, membership development director for ITEX in Dallas. “We collect a transaction fee on their sales and purchases.”
While direct barters can often be accidental and result in uneven exchanges ($200 of dentist work for $50 of window cleaning), modern barter companies help eliminate discrepancies and keep transactions legit with the IRS.
“Someone usually gets screwed in an informal barter situation,” Weaver says. “We help facilitate the process in an easy way.”
Other modern barter exchange companies include IMS, Barter Network and BizXchange.
Get informed
Perhaps the best way to protect your company from a barter-induced audit is to know the facts.
Great resources include the IRS Tax Requirements for Barter Exchanges, National Association of Trade Exchanges and International Reciprocal Trade Association.
Katie Morell is Chicago-based writer and frequent OPEN Forum contributor. She regularly contributes business, feature and travel articles to national and regional publications.
How Meeting the Needs of Clients With Chronic Disease Can Be Rewarding
As your client base ages, you can’t ignore the impact chronic disease has on them. Many chronic diseases progress slowly and present differently in each individual. This makes planning difficult, but not impossible.
January 18, 2011
by James Sullivan, CPA, PFS
A chronic disease is a serious illness that develops over time. It may be managed but is unlikely to be cured. Parkinson’s disease is a chronic condition. Other examples include multiple sclerosis (MS) and Alzheimer’s disease (AD). By contrast, acute conditions are severe and sudden in onset. A broken bone is an acute condition (although a chronic condition such as osteoporosis can cause it).
Financial planning for clients with chronic disease and their impacted families raises unique issues of which planners must be aware. For example, improper planning may disqualify an individual with chronic disease from receiving assistance from the federal and/or state government. This can cost the client hundreds of thousands of dollars and expose the planner to liability. To avoid this and do the best possible job for the client, planners must learn to ask whether the client or someone in their family has a chronic disease. Often clients will not bring up the topic themselves until asked.
You will need to take the prevalence of chronic disease into account for all your clients. As Martin Shenkman, CPA, PFS, JD points out, nearly two out of three (60 percent) of those living with chronic disease are between the ages of 18 and 64. See Estate Planning for People with a Chronic Condition or Disability (2009 demosHEALTH) and www.rv4thecause.org. The aging of your client base will also increase the importance of these issues. This is especially true of AD and other diseases closely associated with aging. (See Martin Shenkman’s webinar on planning for chronic illness on the AICPA PFP website.)
Before you can undertake proper planning, however, you must learn more about the particular disease (such as how the disease presents in the patient, how it progresses and the progression of care that may be needed). Some diseases, such as AD will shorten life expectancy, while others, such as PD do not necessarily shorten life expectancy.
In this article, the focus is on clients diagnosed with PD after age 60. Keep in mind, however, that PD is not as associated with aging as (for example) AD. Each year, 40 percent of the new PD cases are diagnosed in someone younger than 50-years old. For example, actor Michael J. Fox was first diagnosed with PD in his 30s. Working with clients with a chronic disease is not about working with the elderly. Rather, it is learning how to plan for clients of all ages struggling with the physical, cognitive and financial challenges brought about by chronic disease.
How Prevalent Is Chronic Disease?
Today, 120 million Americans live with a chronic illness or disability. Within 10 years, that number will increase to 157 million. This number includes individuals of all ages. Among older adults, one quarter of those aged 65 through 74 are significantly impacted by chronic illness, while half (50 percent) of those over age 85 have cognitive impairment. Understanding the impact of chronic disease on your clients’ finances is an issue you cannot afford to ignore.
For a number of reasons, people living with chronic disease do not want it generally known. They may believe there is little their financial advisor can do to help. Advisors must learn to ask. Even a healthy looking client may suffer from a chronic disease. Clients with no immediate need may eventually be diagnosed with a chronic disease or refer family members or a friend that you can assist.
Parkinson’s Disease
Loss of the brain’s control of voluntary movements causes PD’s movement disorder. It is a chronic as well as a progressive disease meaning the symptoms get worse over time. Though PD’s progression can take many years, even decades, it is also manageable for years with the proper treatment and lifestyle changes.
While there are a number of symptoms, the four primary symptoms are:
1. Tremor
2. Rigidity of the muscles
3. Bradykinesia (the slowing down and loss of spontaneous and automatic movement)
4. Impaired balance
By itself, PD is not a fatal disease. In the late stages of the disease, it may cause complications such as choking, pneumonia and falls that can lead to death.
PD does not affect everyone in the same way. The rate of progression differs among individuals and presents itself in different ways. For these reasons, it is difficult to plan for the amount of care that may be needed. Some PD patients may eventually have to move to an assisted-living facility or a skilled-nursing facility. For others, independent living may be possible for years with only a limited amount of assistance needed. As the PD progresses, however, almost all patients will eventually have to rely on someone’s help.
Given such a wide range of possible outcomes — and care expenses — how can a CPA plan for a client just diagnosed with PD?
Male Client, Age 70
Howie was diagnosed with PD at age 73. Howie is familiar enough with the disease to know there is no typical progression. He is concerned that his assets are insufficient should he need extensive care. A widower, he lives alone. He has two adult daughters with families of their own. He does not want to look to them for care.
Howie’s finances are relatively simple. He owns his home, receives $20,000 in annual Social Security benefits and has investable assets of $2 million. He does not own a long-term-care insurance policy. How much, he asks, should he set aside for future care? Does he have to cut down on his current spending in anticipation of his future-care needs?
Doing a capital-sufficiency calculation is difficult enough for a healthy client due to unknown factors, such as life expectancy, inflation, rates of return, among others. Layer on a chronic disease and the challenge becomes even greater due to the difficulty in anticipating the progression of care and associated costs the client may incur.
In Howie’s case, the first step in planning involved doing projections assuming no incremental costs of care. Of his $2 million nest egg, it was determined that he would require approximately $1.3 million to maintain his current standard of living to age 95. This left $0.7 million for his potential incremental healthcare costs.
Using CareOptions Analytics™ Program, several care scenarios were modeled making different assumptions regarding his progression of care including the need for home care (both non-health and healthcare; making modifications to the home so he could remain as long as possible), as well as the length of time spent in a facility (in this case inputting various lengths of time in assisted living and skilled nursing).
After reviewing the results, Howie and his planner were better able to determine what risks he ran should his nest egg be consumed before his death. Howie and his planner split his portfolio in two: $1.3 million would be used to provide for his everyday living expenses, while the second portfolio of $0.7 million would be available to pay for incremental care costs. Each portfolio would have a slightly different investment strategy.
Howie’s anxiety was reduced because some parameters were placed around his financial situation. He and his planner had numbers, however tenuous, with which to work. Of course, regular updates (at least annually) are important.
Conclusion
Building your practice with this type of specialized knowledge can be rewarding on a personal level and financially. You need only assist a few clients with chronic illness to learn just how valued you and the services you offer are.
January 18, 2011
by James Sullivan, CPA, PFS
A chronic disease is a serious illness that develops over time. It may be managed but is unlikely to be cured. Parkinson’s disease is a chronic condition. Other examples include multiple sclerosis (MS) and Alzheimer’s disease (AD). By contrast, acute conditions are severe and sudden in onset. A broken bone is an acute condition (although a chronic condition such as osteoporosis can cause it).
Financial planning for clients with chronic disease and their impacted families raises unique issues of which planners must be aware. For example, improper planning may disqualify an individual with chronic disease from receiving assistance from the federal and/or state government. This can cost the client hundreds of thousands of dollars and expose the planner to liability. To avoid this and do the best possible job for the client, planners must learn to ask whether the client or someone in their family has a chronic disease. Often clients will not bring up the topic themselves until asked.
You will need to take the prevalence of chronic disease into account for all your clients. As Martin Shenkman, CPA, PFS, JD points out, nearly two out of three (60 percent) of those living with chronic disease are between the ages of 18 and 64. See Estate Planning for People with a Chronic Condition or Disability (2009 demosHEALTH) and www.rv4thecause.org. The aging of your client base will also increase the importance of these issues. This is especially true of AD and other diseases closely associated with aging. (See Martin Shenkman’s webinar on planning for chronic illness on the AICPA PFP website.)
Before you can undertake proper planning, however, you must learn more about the particular disease (such as how the disease presents in the patient, how it progresses and the progression of care that may be needed). Some diseases, such as AD will shorten life expectancy, while others, such as PD do not necessarily shorten life expectancy.
In this article, the focus is on clients diagnosed with PD after age 60. Keep in mind, however, that PD is not as associated with aging as (for example) AD. Each year, 40 percent of the new PD cases are diagnosed in someone younger than 50-years old. For example, actor Michael J. Fox was first diagnosed with PD in his 30s. Working with clients with a chronic disease is not about working with the elderly. Rather, it is learning how to plan for clients of all ages struggling with the physical, cognitive and financial challenges brought about by chronic disease.
How Prevalent Is Chronic Disease?
Today, 120 million Americans live with a chronic illness or disability. Within 10 years, that number will increase to 157 million. This number includes individuals of all ages. Among older adults, one quarter of those aged 65 through 74 are significantly impacted by chronic illness, while half (50 percent) of those over age 85 have cognitive impairment. Understanding the impact of chronic disease on your clients’ finances is an issue you cannot afford to ignore.
For a number of reasons, people living with chronic disease do not want it generally known. They may believe there is little their financial advisor can do to help. Advisors must learn to ask. Even a healthy looking client may suffer from a chronic disease. Clients with no immediate need may eventually be diagnosed with a chronic disease or refer family members or a friend that you can assist.
Parkinson’s Disease
Loss of the brain’s control of voluntary movements causes PD’s movement disorder. It is a chronic as well as a progressive disease meaning the symptoms get worse over time. Though PD’s progression can take many years, even decades, it is also manageable for years with the proper treatment and lifestyle changes.
While there are a number of symptoms, the four primary symptoms are:
1. Tremor
2. Rigidity of the muscles
3. Bradykinesia (the slowing down and loss of spontaneous and automatic movement)
4. Impaired balance
By itself, PD is not a fatal disease. In the late stages of the disease, it may cause complications such as choking, pneumonia and falls that can lead to death.
PD does not affect everyone in the same way. The rate of progression differs among individuals and presents itself in different ways. For these reasons, it is difficult to plan for the amount of care that may be needed. Some PD patients may eventually have to move to an assisted-living facility or a skilled-nursing facility. For others, independent living may be possible for years with only a limited amount of assistance needed. As the PD progresses, however, almost all patients will eventually have to rely on someone’s help.
Given such a wide range of possible outcomes — and care expenses — how can a CPA plan for a client just diagnosed with PD?
Male Client, Age 70
Howie was diagnosed with PD at age 73. Howie is familiar enough with the disease to know there is no typical progression. He is concerned that his assets are insufficient should he need extensive care. A widower, he lives alone. He has two adult daughters with families of their own. He does not want to look to them for care.
Howie’s finances are relatively simple. He owns his home, receives $20,000 in annual Social Security benefits and has investable assets of $2 million. He does not own a long-term-care insurance policy. How much, he asks, should he set aside for future care? Does he have to cut down on his current spending in anticipation of his future-care needs?
Doing a capital-sufficiency calculation is difficult enough for a healthy client due to unknown factors, such as life expectancy, inflation, rates of return, among others. Layer on a chronic disease and the challenge becomes even greater due to the difficulty in anticipating the progression of care and associated costs the client may incur.
In Howie’s case, the first step in planning involved doing projections assuming no incremental costs of care. Of his $2 million nest egg, it was determined that he would require approximately $1.3 million to maintain his current standard of living to age 95. This left $0.7 million for his potential incremental healthcare costs.
Using CareOptions Analytics™ Program, several care scenarios were modeled making different assumptions regarding his progression of care including the need for home care (both non-health and healthcare; making modifications to the home so he could remain as long as possible), as well as the length of time spent in a facility (in this case inputting various lengths of time in assisted living and skilled nursing).
After reviewing the results, Howie and his planner were better able to determine what risks he ran should his nest egg be consumed before his death. Howie and his planner split his portfolio in two: $1.3 million would be used to provide for his everyday living expenses, while the second portfolio of $0.7 million would be available to pay for incremental care costs. Each portfolio would have a slightly different investment strategy.
Howie’s anxiety was reduced because some parameters were placed around his financial situation. He and his planner had numbers, however tenuous, with which to work. Of course, regular updates (at least annually) are important.
Conclusion
Building your practice with this type of specialized knowledge can be rewarding on a personal level and financially. You need only assist a few clients with chronic illness to learn just how valued you and the services you offer are.
How the IRS Examines Repair and Maintenance Costs
Taxpayers are generally allowed to deduct the cost of making incidental repairs to their property used in carrying on any trade or business under IRC § 162 and Treas. Reg. § 1.162-4. However, to be deductible currently, a repair cost must not be subject to capitalization under IRC § 263(a). Specifically, no deduction is allowed for (1) any amount paid for new buildings or for permanent improvements that increase the value of the property or (2) any amount spent restoring property or in making good the exhaustion of property for which a depreciation allowance has been made. Treas. Reg. § 1.263(a)-1(b) specifies that capital expenditures include amounts paid or incurred to (1) add to the value or substantially prolong the useful life of property owned by the taxpayer or (2) adapt property to a new or different use.
The IRS Large Business & International Division recently released an audit technique guide (ATG) that provides a framework for IRS examining agents to follow when examining this issue. It provides useful insights into how the IRS will determine whether certain costs are deductible repair costs or capital expenditures. While the ATG does not provide any conclusions on substantive issues, such as unit-of-property determinations, it does provide procedures for agents to follow while examining taxpayers who have filed a change in accounting method related to recharacterizing previously capitalized costs.
The ATG states that whether a cost qualifies as a deductible repair cost is a factual determination for which the burden of proof rests with the taxpayer. Taxpayers are required to keep sufficient contemporaneous records to support their determination that an expense qualifies as a deductible repair and maintenance cost.
The main body of the ATG provides suggestions for IRS agents to follow in planning and conducting their examinations of repair costs. Specifically, it encourages agents to review taxpayer applications for a change in accounting method related to repair costs/unit of property, cost segregation and disposal of property; to review the taxpayer’s repair cost studies, including any presentation materials, correspondence and engagement letters; to review the taxpayer’s SEC 10-K forms and its policies related to fixed assets; and to conduct interviews and site visits.
The body of the ATG contains a list of 46 potential information document request (IDR) items. Taxpayers and their service providers should review the list of IDR items to make sure that they have on record adequate documentation related to the determination that an expense is a deductible repair and maintenance expense.
The ATG also includes six appendices that discuss case law and other authority that may be relevant in determining whether certain costs should be treated as repair and maintenance costs.
Taxpayers considering or who have implemented a change in accounting method to recharacterize capital expenditures as deductible repair and maintenance costs should be aware of the guidance in the ATG. To be prepared for a potential IRS examination, taxpayers should ensure that the proper determination has been made with respect to their unit-of-property definition and what is considered a repair and maintenance cost, as well as have the proper documentation to support the determination.
For a detailed discussion of the issues in this area, see “New IRS Audit Technique Guide for Examination of Repair and Maintenance Costs,” by Ellen Fitzpatrick, CPA, in the February 2011 issue of The Tax Adviser.
—Alistair M. Nevius, editor-in-chief
The Tax Adviser
The IRS Large Business & International Division recently released an audit technique guide (ATG) that provides a framework for IRS examining agents to follow when examining this issue. It provides useful insights into how the IRS will determine whether certain costs are deductible repair costs or capital expenditures. While the ATG does not provide any conclusions on substantive issues, such as unit-of-property determinations, it does provide procedures for agents to follow while examining taxpayers who have filed a change in accounting method related to recharacterizing previously capitalized costs.
The ATG states that whether a cost qualifies as a deductible repair cost is a factual determination for which the burden of proof rests with the taxpayer. Taxpayers are required to keep sufficient contemporaneous records to support their determination that an expense qualifies as a deductible repair and maintenance cost.
The main body of the ATG provides suggestions for IRS agents to follow in planning and conducting their examinations of repair costs. Specifically, it encourages agents to review taxpayer applications for a change in accounting method related to repair costs/unit of property, cost segregation and disposal of property; to review the taxpayer’s repair cost studies, including any presentation materials, correspondence and engagement letters; to review the taxpayer’s SEC 10-K forms and its policies related to fixed assets; and to conduct interviews and site visits.
The body of the ATG contains a list of 46 potential information document request (IDR) items. Taxpayers and their service providers should review the list of IDR items to make sure that they have on record adequate documentation related to the determination that an expense is a deductible repair and maintenance expense.
The ATG also includes six appendices that discuss case law and other authority that may be relevant in determining whether certain costs should be treated as repair and maintenance costs.
Taxpayers considering or who have implemented a change in accounting method to recharacterize capital expenditures as deductible repair and maintenance costs should be aware of the guidance in the ATG. To be prepared for a potential IRS examination, taxpayers should ensure that the proper determination has been made with respect to their unit-of-property definition and what is considered a repair and maintenance cost, as well as have the proper documentation to support the determination.
For a detailed discussion of the issues in this area, see “New IRS Audit Technique Guide for Examination of Repair and Maintenance Costs,” by Ellen Fitzpatrick, CPA, in the February 2011 issue of The Tax Adviser.
—Alistair M. Nevius, editor-in-chief
The Tax Adviser
Friday, January 28, 2011
Subject: Business Forms Affected By the Extender Provisions
Taxpayers will need to wait to file if they are impacted by any of the tax credits or deductions that expired at the end of 2009 and were renewed by the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 enacted Dec. 17. The delays impact taxpayers claiming:
• Form 1120-PC, U.S. Property and Casualty Insurance Company Income Tax Return
• Form 941 (First Quarter 2011), Employer’s Quarterly Federal Tax Return
• Form 709, U.S. Gift Tax Return
• Form 706, United States Estate (and Generation-Skipping Transfer) Tax Return
• Form 706-NA, United States Estate (and Generation-Skipping Transfer) Tax Return for non-resident
• Form 8849 Schedule 3 (Calendar year 2011), Certain Fuel Mixtures and the Alternative Fuel Credit
The delay affects both paper and electronic filers. All these returns should not be filed until the IRS is ready to start processing these returns.
The Feb 14 filing date recently announced by the IRS does not apply to the forms listed on this page.
IRS will announce a specific date in the near future when we will begin processing these affected forms.
• Form 1120-PC, U.S. Property and Casualty Insurance Company Income Tax Return
• Form 941 (First Quarter 2011), Employer’s Quarterly Federal Tax Return
• Form 709, U.S. Gift Tax Return
• Form 706, United States Estate (and Generation-Skipping Transfer) Tax Return
• Form 706-NA, United States Estate (and Generation-Skipping Transfer) Tax Return for non-resident
• Form 8849 Schedule 3 (Calendar year 2011), Certain Fuel Mixtures and the Alternative Fuel Credit
The delay affects both paper and electronic filers. All these returns should not be filed until the IRS is ready to start processing these returns.
The Feb 14 filing date recently announced by the IRS does not apply to the forms listed on this page.
IRS will announce a specific date in the near future when we will begin processing these affected forms.
Online Travel Company's Facilitation and Service Fees Subject to South Carolina Accommodations Tax
The South Carolina Supreme Court held that the facilitation and service fees charged by an online travel company for providing hotel reservations in South Carolina were subject to the state sales tax imposed on gross proceeds from the rental or charges for rooms or sleeping accommodations furnished to transients by any hotel. In addition, the imposition of sales tax does not violate the Dormant Commerce Clause. (Travelscape, LLC v. S.C. Dept. Rev., S.C. S. Ct., Dkt. No. 26913, 01/18/2011.)
Tax on gross proceeds. Under S.C. Code Ann. §12-36-920(A), sales tax is imposed on “the gross proceeds derived from the rental or charges for any rooms... furnished to transients by any... place in which rooms, lodgings, or sleeping accommodations are furnished to transients for consideration.” The court found that the service and facilitation fees charged by the online travel company were subject to sales tax under the plain language of the statute as gross proceeds, because the statute imposed tax on the “gross proceeds derived from the rental or charges for any room.” Gross proceeds includes the value obtained from the rental of accommodations without deduction for the cost of services.
Company engaged in business. Under S.C. Code Ann. §12-36-920(E), the accommodations tax is imposed “on every person engaged or continuing within this State in the business of furnishing accommodations to transients for consideration.” The court held that the tax was not limited to the person physically providing sleeping accommodations, but rather applied to the person who was accepting money in exchange for supplying the room. Though the term “furnish” as used in S.C. Code Ann. §12-36-920(A) connotes physically providing sleeping accommodations to customers, in S.C. Code Ann. §12-36-920(E) “furnish” encompasses the activities of persons “who, directly or indirectly, provide hotel reservations to transients for consideration.” The online travel company comes within the scope of this provision because it is in the business of providing accommodations. The legislative purpose of S.C. Code Ann. §12-36-920 is to impose a tax on the amount of money visitors spend on their hotel rooms or other accommodations.
Business engaged in within the state. The sales tax is imposed on persons engaged or continuing in the business of furnishing accommodations in South Carolina, whether or not the entities maintain offices or otherwise reside in the state. Thus, the online travel company is responsible for remitting the sales tax on its services because it was engaged in the business of furnishing accommodations in South Carolina. It entered into contracts with hundreds of hotels in South Carolina in which the hotels agreed to accept a discounted price for reservations made on Expedia; it sent employees to South Carolina to negotiate these agreements; and it booked reservations in exchange for consideration at hotels located in the state.
Dormant Commerce Clause. The accommodations tax did not violate the Dormant Commerce Clause because it satisfies the four-part test in Complete Auto Transit, Inc. v. Brady, U.S. S. Ct., 430 US 274 (1977). The online travel company had sufficient physical presence in South Carolina because its employees and representatives visited South Carolina to establish and maintain hotel relationships and to obtain the discounted room rate for rooms booked on Expedia. Moreover, the company enters into contracts with South Carolina hotels for the right to offer reservations at various locations throughout the state, and when a reservation is booked on Expedia, the customer stays at a hotel within the state. The internal and external consistency tests are met because if every state imposes a similar tax on accommodations provided within its boundaries, no multiple taxation occurs because the same accommodations cannot be furnished in two different states at one time. The court held that issues concerning discrimination against interstate commerce and whether the tax fairly related to services provided by the state had not been preserved for appellate review. The Administrative Law Court did not rule on arguments concerning the last two elements of the “Complete Auto” test. The online travel company thus should have made a Rule 59(e) motion to preserve issues raised but not ruled on by the trial court, which it failed to do.
Tax on gross proceeds. Under S.C. Code Ann. §12-36-920(A), sales tax is imposed on “the gross proceeds derived from the rental or charges for any rooms... furnished to transients by any... place in which rooms, lodgings, or sleeping accommodations are furnished to transients for consideration.” The court found that the service and facilitation fees charged by the online travel company were subject to sales tax under the plain language of the statute as gross proceeds, because the statute imposed tax on the “gross proceeds derived from the rental or charges for any room.” Gross proceeds includes the value obtained from the rental of accommodations without deduction for the cost of services.
Company engaged in business. Under S.C. Code Ann. §12-36-920(E), the accommodations tax is imposed “on every person engaged or continuing within this State in the business of furnishing accommodations to transients for consideration.” The court held that the tax was not limited to the person physically providing sleeping accommodations, but rather applied to the person who was accepting money in exchange for supplying the room. Though the term “furnish” as used in S.C. Code Ann. §12-36-920(A) connotes physically providing sleeping accommodations to customers, in S.C. Code Ann. §12-36-920(E) “furnish” encompasses the activities of persons “who, directly or indirectly, provide hotel reservations to transients for consideration.” The online travel company comes within the scope of this provision because it is in the business of providing accommodations. The legislative purpose of S.C. Code Ann. §12-36-920 is to impose a tax on the amount of money visitors spend on their hotel rooms or other accommodations.
Business engaged in within the state. The sales tax is imposed on persons engaged or continuing in the business of furnishing accommodations in South Carolina, whether or not the entities maintain offices or otherwise reside in the state. Thus, the online travel company is responsible for remitting the sales tax on its services because it was engaged in the business of furnishing accommodations in South Carolina. It entered into contracts with hundreds of hotels in South Carolina in which the hotels agreed to accept a discounted price for reservations made on Expedia; it sent employees to South Carolina to negotiate these agreements; and it booked reservations in exchange for consideration at hotels located in the state.
Dormant Commerce Clause. The accommodations tax did not violate the Dormant Commerce Clause because it satisfies the four-part test in Complete Auto Transit, Inc. v. Brady, U.S. S. Ct., 430 US 274 (1977). The online travel company had sufficient physical presence in South Carolina because its employees and representatives visited South Carolina to establish and maintain hotel relationships and to obtain the discounted room rate for rooms booked on Expedia. Moreover, the company enters into contracts with South Carolina hotels for the right to offer reservations at various locations throughout the state, and when a reservation is booked on Expedia, the customer stays at a hotel within the state. The internal and external consistency tests are met because if every state imposes a similar tax on accommodations provided within its boundaries, no multiple taxation occurs because the same accommodations cannot be furnished in two different states at one time. The court held that issues concerning discrimination against interstate commerce and whether the tax fairly related to services provided by the state had not been preserved for appellate review. The Administrative Law Court did not rule on arguments concerning the last two elements of the “Complete Auto” test. The online travel company thus should have made a Rule 59(e) motion to preserve issues raised but not ruled on by the trial court, which it failed to do.
Illinois Legislature Approves Bill Expanding Sales and Use Tax Nexus
The Illinois Legislature approved a bill (H3659) that would expand sales and use tax nexus beginning July 1, 2011, by amending the definition of a “retailer maintaining a place of business in this State” to include a retailer having a contract with a person located in Illinois under which the person, for a commission based upon the sale of tangible personal property by the retailer, refers customers to the retailer by a link on the person's Internet website. The definition would also be amended to include a retailer having a contract with a person located in Illinois under which: (1) the retailer sells a substantially similar line of products as the person located in Illinois and does so using a similar name as that person; and (2) the retailer provides a commission to the person located in Illinois based on the sale. Similar changes would be made to the definition of a “serviceman maintaining a place of business in this State.” If Governor Pat Quinn signs H3659, the legislation would take effect immediately.
Nexus—Internet affiliates. The bill would amend the definition of a “retailer maintaining a place of business in this State” beginning July 1, 2011, to include a retailer having a contract with a person located in Illinois under which the person, for a commission or other consideration based upon the sale of tangible personal property by the retailer, directly or indirectly refers potential customers to the retailer by a link on the person's Internet website. This provision would apply only if the cumulative gross receipts from sales of tangible personal property by the retailer to customers who are referred to the retailer by all persons in Illinois under such contracts exceed $10,000 during the preceding four quarterly periods ending on the last day of March, June, September, and December.
The bill would make a similar change to the definition of a “serviceman maintaining a place of business in this State.”
Nexus—similar products. The bill would amend the definition of a “retailer maintaining a place of business in this State” beginning July 1, 2011, to include a retailer having a contract with a person located in Illinois under which: (1) the retailer sells the same or substantially similar line of products as the person located in Illinois and does so using an identical or substantially similar name, trade name, or trademark as the person located in Illinois; and (2) the retailer provides a commission or other consideration to the person located in Illinois based upon the sale of tangible personal property by the retailer. This provision would apply only if the cumulative gross receipts from sales of tangible personal property by the retailer to customers in Illinois under all such contracts exceed $10,000 during the preceding four quarterly periods ending on the last day of March, June, September, and December.
The bill would make a similar change to the definition of a “serviceman maintaining a place of business in this State.”
Nexus—Internet affiliates. The bill would amend the definition of a “retailer maintaining a place of business in this State” beginning July 1, 2011, to include a retailer having a contract with a person located in Illinois under which the person, for a commission or other consideration based upon the sale of tangible personal property by the retailer, directly or indirectly refers potential customers to the retailer by a link on the person's Internet website. This provision would apply only if the cumulative gross receipts from sales of tangible personal property by the retailer to customers who are referred to the retailer by all persons in Illinois under such contracts exceed $10,000 during the preceding four quarterly periods ending on the last day of March, June, September, and December.
The bill would make a similar change to the definition of a “serviceman maintaining a place of business in this State.”
Nexus—similar products. The bill would amend the definition of a “retailer maintaining a place of business in this State” beginning July 1, 2011, to include a retailer having a contract with a person located in Illinois under which: (1) the retailer sells the same or substantially similar line of products as the person located in Illinois and does so using an identical or substantially similar name, trade name, or trademark as the person located in Illinois; and (2) the retailer provides a commission or other consideration to the person located in Illinois based upon the sale of tangible personal property by the retailer. This provision would apply only if the cumulative gross receipts from sales of tangible personal property by the retailer to customers in Illinois under all such contracts exceed $10,000 during the preceding four quarterly periods ending on the last day of March, June, September, and December.
The bill would make a similar change to the definition of a “serviceman maintaining a place of business in this State.”
Accounting Services Tip
Obtaining the Accounting Information
Efficient accounting services depend on the timely receipt of information. Starting and stopping the process because all the necessary information was not submitted is both frustrating and inefficient. To overcome such delays, many accountants establish due dates for receiving information. That practice is not always enough, however. Even if due dates for receiving the needed information are established, all the necessary information may not be submitted because (a) the individuals do not understand the importance of submitting the information, or (b) the accountants do not precisely specify the information that should be submitted. Therefore, to provide efficient accounting services, it is important to communicate not only when the information is due, but precisely what information is needed and why.
What Information Should Be Provided?
The information needed to perform accounting services varies depending on the types of transactions the company enters into and the basis of accounting used. For example, if a company receives a long-term loan, the accountants would need to review a copy of the loan agreement to properly record the transaction. If a company uses the accrual basis of accounting, information about accounts receivable and accounts payable would be needed. Generally, the following information is needed to process a company's general ledger.
Bank statements — Cash Basis - Yes — Accrual Basis - Yes
Check register or check stubs (including information about transactions involving petty cash) — Cash Basis - Yes — Accrual Basis - Yes
Paid invoices — Cash Basis - Yes — Accrual Basis - Yes
Deposit information — Cash Basis - Yes — Accrual Basis - Yes
Sales information — Cash Basis - Yes — Accrual Basis - Yes
Accounts receivable information — Cash Basis - No — Accrual Basis - Yes
Accounts payable information — Cash Basis - No — Accrual Basis - Yes
Inventory (or cost of sales) information — Cash Basis - Yes — Accrual Basis - Yes
Information about other transactions — Cash Basis - Yes — Accrual Basis - Yes
Bank Statements Bank statements for the period (month, quarter, or year) should be obtained and reconciled to the general ledger. (Accountants in public practice should either reconcile the cash accounts or determine that the client has done so.) Accountants also should consider requesting paid checks since paid checks often provide specific information that may be omitted from the check register or check stubs.
Some accountants in public practice request that bank statements be sent to their offices unopened. They view that as a control over cash. However, accountants in public practice should not be responsible for maintaining internal controls. Instead, they should instruct their clients on the importance of cash controls. An authorized client employee that is not involved in the cash receipt or cash disbursement function should be given responsibility for opening the bank statement and reviewing its contents.
Check Register or Check Stubs If the company uses voucher or multipart checks or issues checks by computer, the check register should be furnished to the accountants. Check stubs should be furnished if the company uses a checkbook that includes check stubs. In either case, the date, amount, payee, and purpose of each payment should be provided. Accountants in public practice may request the client to code each disbursement with the appropriate general ledger account number. However, that unless the client's staff is well-trained and familiar with the general ledger accounts, the codings may often be incorrect. Identifying and correcting numerous incorrect codings can be time consuming for the accountants.
In addition to information about disbursements from checking accounts, information about disbursements from petty cash accounts should also be obtained. Most companies with petty cash accounts maintain petty cash logs that list (at a minimum) the beginning and ending balance of petty cash and each disbursement or addition's date, amount, and purpose. Obtaining a copy of such a log normally will provide sufficient information to properly record petty cash transactions.
Paid Invoices Paid invoices should be obtained to determine that (a) invoices are paid when due and (b) the purpose of the payment is properly described in the check register or on the check stub. By having immediate access to paid invoices, the accountants can save valuable time if a description of a disbursement is not complete. The accountants can continue processing the information without waiting on additional information.
Deposit Information Deposit information should be submitted with the check register or check stubs. Each deposit should be identified with a clear description of its source. Care should be exercised when describing deposits since incorrectly coded deposit information can lead to overstating the company's income and distorting operating statistics.
Sales Information The information needed about the period's sales varies with each company but may include totals for cash sales, sales on account, credit card sales, and sales taxes collected. The “Cash Receipts Summary” at Appendix 2A in PPC’s Guide to Write-up Services presents a reconciliation of sales to cash deposits that generally will provide the needed information about sales.
Accounts Receivable Information If the general ledger is kept on the accrual basis of accounting, information about the period's accounts receivable balances is also needed. If the general ledger is kept on the cash basis or modified cash basis, information about accounts receivable is only necessary if supplementary schedules presenting receivable information are prepared. Information about most of the accounts receivable activity during the period (that is, sales on account and payments on account) can be provided by completing the “Cash Receipts Summary” at Appendix 2A in PPC’s Guide to Write-up Services. In addition, any other activity during the period that affects accounts receivable (for example, write-offs or other adjustments of accounts receivable) should be provided.
Accounts Payable Information If the general ledger is maintained on the accrual basis of accounting or if supplementary schedules presenting accounts payable information are prepared, information about the period's accounts payable balance is needed. The information about accounts payable should include a listing of each payable, its balance, and a description of its purpose. Many companies maintain a tickler file of unpaid invoices. As a result, they can easily obtain accounts payable information by summarizing the invoices in the file. Other companies may enter vendor invoices as they are received in a manual or computerized accounts payable journal. Consequently, those companies can obtain the necessary accounts payable information from the information contained in their accounts payable journals.
Inventory Information Inventory information is helpful to adjust inventories to their proper levels and record cost of sales. Many small to medium-sized companies do not have the resources to maintain perpetual inventory records, however. Instead, they take physical inventories periodically (that is, they count the inventory on hand) and use estimates to adjust inventory and record cost of sales in other periods. Thus, rather than provide information about inventories at each interim period, they provide the information only when physical inventories are taken.
Information about Other Transactions Companies may enter into transactions that are not reflected in the information about cash receipts and disbursements, accounts receivable, or accounts payable. For example, a company may finance the purchase of assets or enter into capital lease agreements. Accountants should inquire about any such transactions and obtain the necessary information to properly record them.
Avoiding Delays in Receiving Information
Providing efficient accounting services depends on the timely receipt of information. Delays in receiving the needed information can often be avoided if the accountants:
•• Obtain an understanding with the individuals involved about the information that is needed and the consequences of providing that information late.
•• Educate the individuals involved about why the requested information is needed and provide assurances that confidentiality will be maintained.
•• Clearly state when the information is needed.
Use Transmittal Forms Some accountants in public practice provide transmittal forms to be returned with their clients' information. The transmittal forms serve as memory joggers for their clients to help ensure that all information is provided. A supply of transmittal forms can be given to a client at the beginning of each year or, as an alternative, a new transmittal form for the next period may be included in the processed accounting information for the current period when it is returned to the client. Appendix 2C in PPC’s Guide to Write-up Services contains such a transmittal form.
Review the Information When It Is Received Delays in receiving all of the needed information can also be avoided if accountants review the information for completeness as soon as it is received. Generally, such a review will involve only a minimal amount of the accountants' time, particularly if a transmittal form accompanies the information. Any additional time used by such reviews, however, is often offset by the time saved by not having to start and stop an engagement because of incomplete information.
Accountants in public practice should document any additional efforts required to obtain complete accounting information from a client in a memo to the client's file. By documenting those efforts, accountants are in a much better position to explain why:
•• An extension of time is necessary to complete the processing of the information.
•• Additional fees are needed (assuming that the accountants ultimately had to provide information that initially was to be provided by the client).
Lack of Cooperation Occasionally, accountants may encounter an individual that will not cooperate—either intentionally or because of lack of training. Accountants should clearly establish an understanding with the individual about the need for cooperation and communicate any lack of cooperation. If the problem is intentional, the accountants should request that the individual's supervisor take immediate action to remedy the problem. Explaining the additional costs and time delays that lack of cooperation causes often hastens a solution. Lack of training can be overcome by working with the individual.
When accountants in public practice encounter clients that will not cooperate, withdrawal is usually not necessary unless such situations deteriorate and become serious problems. Some clients simply will not cooperate regardless of the accountants' efforts to get them to do so. In those situations, the accountants should consider withdrawing from the engagement, because it is extremely difficult to provide acceptable services to such clients.
Efficient accounting services depend on the timely receipt of information. Starting and stopping the process because all the necessary information was not submitted is both frustrating and inefficient. To overcome such delays, many accountants establish due dates for receiving information. That practice is not always enough, however. Even if due dates for receiving the needed information are established, all the necessary information may not be submitted because (a) the individuals do not understand the importance of submitting the information, or (b) the accountants do not precisely specify the information that should be submitted. Therefore, to provide efficient accounting services, it is important to communicate not only when the information is due, but precisely what information is needed and why.
What Information Should Be Provided?
The information needed to perform accounting services varies depending on the types of transactions the company enters into and the basis of accounting used. For example, if a company receives a long-term loan, the accountants would need to review a copy of the loan agreement to properly record the transaction. If a company uses the accrual basis of accounting, information about accounts receivable and accounts payable would be needed. Generally, the following information is needed to process a company's general ledger.
Bank statements — Cash Basis - Yes — Accrual Basis - Yes
Check register or check stubs (including information about transactions involving petty cash) — Cash Basis - Yes — Accrual Basis - Yes
Paid invoices — Cash Basis - Yes — Accrual Basis - Yes
Deposit information — Cash Basis - Yes — Accrual Basis - Yes
Sales information — Cash Basis - Yes — Accrual Basis - Yes
Accounts receivable information — Cash Basis - No — Accrual Basis - Yes
Accounts payable information — Cash Basis - No — Accrual Basis - Yes
Inventory (or cost of sales) information — Cash Basis - Yes — Accrual Basis - Yes
Information about other transactions — Cash Basis - Yes — Accrual Basis - Yes
Bank Statements Bank statements for the period (month, quarter, or year) should be obtained and reconciled to the general ledger. (Accountants in public practice should either reconcile the cash accounts or determine that the client has done so.) Accountants also should consider requesting paid checks since paid checks often provide specific information that may be omitted from the check register or check stubs.
Some accountants in public practice request that bank statements be sent to their offices unopened. They view that as a control over cash. However, accountants in public practice should not be responsible for maintaining internal controls. Instead, they should instruct their clients on the importance of cash controls. An authorized client employee that is not involved in the cash receipt or cash disbursement function should be given responsibility for opening the bank statement and reviewing its contents.
Check Register or Check Stubs If the company uses voucher or multipart checks or issues checks by computer, the check register should be furnished to the accountants. Check stubs should be furnished if the company uses a checkbook that includes check stubs. In either case, the date, amount, payee, and purpose of each payment should be provided. Accountants in public practice may request the client to code each disbursement with the appropriate general ledger account number. However, that unless the client's staff is well-trained and familiar with the general ledger accounts, the codings may often be incorrect. Identifying and correcting numerous incorrect codings can be time consuming for the accountants.
In addition to information about disbursements from checking accounts, information about disbursements from petty cash accounts should also be obtained. Most companies with petty cash accounts maintain petty cash logs that list (at a minimum) the beginning and ending balance of petty cash and each disbursement or addition's date, amount, and purpose. Obtaining a copy of such a log normally will provide sufficient information to properly record petty cash transactions.
Paid Invoices Paid invoices should be obtained to determine that (a) invoices are paid when due and (b) the purpose of the payment is properly described in the check register or on the check stub. By having immediate access to paid invoices, the accountants can save valuable time if a description of a disbursement is not complete. The accountants can continue processing the information without waiting on additional information.
Deposit Information Deposit information should be submitted with the check register or check stubs. Each deposit should be identified with a clear description of its source. Care should be exercised when describing deposits since incorrectly coded deposit information can lead to overstating the company's income and distorting operating statistics.
Sales Information The information needed about the period's sales varies with each company but may include totals for cash sales, sales on account, credit card sales, and sales taxes collected. The “Cash Receipts Summary” at Appendix 2A in PPC’s Guide to Write-up Services presents a reconciliation of sales to cash deposits that generally will provide the needed information about sales.
Accounts Receivable Information If the general ledger is kept on the accrual basis of accounting, information about the period's accounts receivable balances is also needed. If the general ledger is kept on the cash basis or modified cash basis, information about accounts receivable is only necessary if supplementary schedules presenting receivable information are prepared. Information about most of the accounts receivable activity during the period (that is, sales on account and payments on account) can be provided by completing the “Cash Receipts Summary” at Appendix 2A in PPC’s Guide to Write-up Services. In addition, any other activity during the period that affects accounts receivable (for example, write-offs or other adjustments of accounts receivable) should be provided.
Accounts Payable Information If the general ledger is maintained on the accrual basis of accounting or if supplementary schedules presenting accounts payable information are prepared, information about the period's accounts payable balance is needed. The information about accounts payable should include a listing of each payable, its balance, and a description of its purpose. Many companies maintain a tickler file of unpaid invoices. As a result, they can easily obtain accounts payable information by summarizing the invoices in the file. Other companies may enter vendor invoices as they are received in a manual or computerized accounts payable journal. Consequently, those companies can obtain the necessary accounts payable information from the information contained in their accounts payable journals.
Inventory Information Inventory information is helpful to adjust inventories to their proper levels and record cost of sales. Many small to medium-sized companies do not have the resources to maintain perpetual inventory records, however. Instead, they take physical inventories periodically (that is, they count the inventory on hand) and use estimates to adjust inventory and record cost of sales in other periods. Thus, rather than provide information about inventories at each interim period, they provide the information only when physical inventories are taken.
Information about Other Transactions Companies may enter into transactions that are not reflected in the information about cash receipts and disbursements, accounts receivable, or accounts payable. For example, a company may finance the purchase of assets or enter into capital lease agreements. Accountants should inquire about any such transactions and obtain the necessary information to properly record them.
Avoiding Delays in Receiving Information
Providing efficient accounting services depends on the timely receipt of information. Delays in receiving the needed information can often be avoided if the accountants:
•• Obtain an understanding with the individuals involved about the information that is needed and the consequences of providing that information late.
•• Educate the individuals involved about why the requested information is needed and provide assurances that confidentiality will be maintained.
•• Clearly state when the information is needed.
Use Transmittal Forms Some accountants in public practice provide transmittal forms to be returned with their clients' information. The transmittal forms serve as memory joggers for their clients to help ensure that all information is provided. A supply of transmittal forms can be given to a client at the beginning of each year or, as an alternative, a new transmittal form for the next period may be included in the processed accounting information for the current period when it is returned to the client. Appendix 2C in PPC’s Guide to Write-up Services contains such a transmittal form.
Review the Information When It Is Received Delays in receiving all of the needed information can also be avoided if accountants review the information for completeness as soon as it is received. Generally, such a review will involve only a minimal amount of the accountants' time, particularly if a transmittal form accompanies the information. Any additional time used by such reviews, however, is often offset by the time saved by not having to start and stop an engagement because of incomplete information.
Accountants in public practice should document any additional efforts required to obtain complete accounting information from a client in a memo to the client's file. By documenting those efforts, accountants are in a much better position to explain why:
•• An extension of time is necessary to complete the processing of the information.
•• Additional fees are needed (assuming that the accountants ultimately had to provide information that initially was to be provided by the client).
Lack of Cooperation Occasionally, accountants may encounter an individual that will not cooperate—either intentionally or because of lack of training. Accountants should clearly establish an understanding with the individual about the need for cooperation and communicate any lack of cooperation. If the problem is intentional, the accountants should request that the individual's supervisor take immediate action to remedy the problem. Explaining the additional costs and time delays that lack of cooperation causes often hastens a solution. Lack of training can be overcome by working with the individual.
When accountants in public practice encounter clients that will not cooperate, withdrawal is usually not necessary unless such situations deteriorate and become serious problems. Some clients simply will not cooperate regardless of the accountants' efforts to get them to do so. In those situations, the accountants should consider withdrawing from the engagement, because it is extremely difficult to provide acceptable services to such clients.
Performing a Year-end Close with QuickBooks
Adjusting Year-end Balances
When closing the books at the end of a client’s fiscal year, bookkeepers should perform many of the same procedures for monthly reviews (such as reconciling bank statements and credit card statements and transferring uncategorized income and expense balances). In addition, bookkeepers should perform the following procedures when adjusting QuickBooks files at the end of a client’s fiscal year:
• Adjust Inventory. Bookkeepers should adjust inventory quantities in QuickBooks to agree to physical inventory counts. In addition, bookkeepers should adjust the balance in the “Inventory Asset” account to lower of cost or market if necessary.
• Adjust the Allowance for Doubtful Accounts. QuickBooks instructs users to record bad debt expense by (a) selecting “Receive Payments” from the “Customers” menu, (b) selecting the customer’s name from the drop-down list in the “Received From” field of the “Receive Payments” window, (c) leaving the amount field at 0.00, (d) highlighting the uncollectible outstanding invoice or statement charge, (e) clicking the “Discounts & Credits” button, (f) entering the bad debt amount in the “Amount of Discount” field in the “Discount and Credits” window, and (g) selecting the “Bad Debt Expense” account from the “Discount Account” drop-down list. That procedure debits “Bad Debt Expense” and credits “Accounts Receivable.” (That procedure also adjusts the affected customer invoice or statement but does not adjust any sales tax liability related to the uncollectible receivable.)
Under the allowance method, receivables that have not been specifically identified as uncollectible but that are estimated to be uncollectible should be reserved using an allowance for doubtful accounts. Bookkeepers often estimate uncollectible accounts using (a) the percentage of sales method, (b) the aging method, or (c) a weighted average method. Any receivables subsequently identified as uncollectible should be written off against the allowance for doubtful accounts. At the end of the client’s fiscal year, the practitioner should (a) compute bad debt expense, accounts receivable, and allowance for doubtful accounts balances using the allowance method; (b) review the client’s postings to the “Bad Debt Expense” account using the direct charge-off method; and (c) compare the results. If necessary, the practitioner should record a journal entry to adjust the “Bad Debt Expense,” “Allowance for Doubtful Accounts,” and “Accounts Receivable” accounts.
Note: Bookkeepers cannot record a journal entry that debits “Allowance for Doubtful Accounts” and credits “Accounts Receivable” if the allowance account has been set up as a subaccount of “Accounts Receivable.” QuickBooks does not allow users to post transactions to multiple accounts receivable accounts in the same journal entry. Recording a journal entry to credit “Accounts Receivable” adjusts a particular customer’s balance but does not adjust the affected customer invoice or statement.
• Adjust Gains or Losses on Fixed Asset Sales. Bookkeepers should verify that fixed asset sales are recorded correctly. Many clients erroneously credit a fixed asset gain/loss account or miscellaneous income account for the entire amount of the sales proceeds when recording a fixed asset sale. In that case, the practitioner should record a journal entry to (a) credit the fixed asset’s original cost, (b) debit accumulated depreciation, and (c) debit or credit the gain/loss account.
• Capitalize and Amortize Prepaid Assets. Clients often pay certain expenditures in advance, such as property and casualty insurance, property taxes, and advertising. Expenditures that benefit more than one year should be recorded as prepaid assets when paid and amortized over the appropriate period covered by the expenditure. Clients often record such disbursements as expenses when paid. If material, bookkeepers should capitalize prepaid assets by recording a journal entry that debits a prepaid assets account and credits the applicable expense accounts. In addition, bookkeepers should amortize prepaid assets by recording a journal entry that debits the applicable expense accounts and credits the prepaid assets account.
• Calculate and Record Depreciation. Bookkeepers should calculate and record depreciation on fixed assets.
• Record Interest Expense. Bookkeepers should record interest expense on loans and notes payable.
• Adjust Marketable Securities to Fair Value. Generally accepted accounting principles require marketable debt and equity securities to be recorded at fair value if they are available for sale or held for trading purposes. Consequently, bookkeepers should determine the fair value of such securities as of the client’s balance sheet date and record a journal entry to adjust the value of the securities. The journal entry should debit or credit the investment asset account for the increase or decrease in value. For available-for-sale securities, the offsetting amount should be recorded in other comprehensive income (unless a decline in value is considered to be other than temporary, in which case the offsetting amount should be recorded in current period income or expense). For trading securities, the offsetting amount should be recorded in current period income or expense. As a practical matter, bookkeepers for most small to medium-sized companies only adjust marketable debt or equity securities to fair value at year-end. Adjustments generally are not made during interim periods unless significant changes in fair value occur.
• Adjust Uncategorized Income and Expenses. Bookkeepers should transfer amounts from the “Uncategorized Income” and “Uncategorized Expenses” accounts to the appropriate general ledger accounts.
• Adjust Opening Balance Equity. Bookkeepers should transfer the balance in the “Opening Balance Equity” account to the applicable equity accounts.
The preceding items represent the most common journal entries that bookkeepers generally need to record at year-end for their QuickBooks clients. However, bookkeepers should review other general ledger accounts and perform detail account analysis.
Automatic Year-end Adjustments
QuickBooks automatically records certain year-end adjustments based on the month specified in the “First month in your fiscal year” field in the “Company Information” window. (Bookkeepers can verify that the correct month is specified in that window by selecting “Company Information” from the “Company” menu.) On the first day of the new fiscal year, QuickBooks:
• Zeroes out all income and expense accounts so that the new fiscal year begins with zero net income.
• Posts all income and expense balances to the “Retained Earnings” account (which QuickBooks automatically creates during the setup of the company).
Since QuickBooks does not record the preceding adjustments until the first day of the client’s new fiscal year, the adjustments do not affect account balances in the preceding fiscal year. As bookkeepers continue to adjust the client’s QuickBooks file for the preceding fiscal year, QuickBooks continues to post all income and expense transactions recorded with a date in the preceding fiscal year to retained earnings in the new fiscal year. Although the QuickBooks adjustments do not affect the ending retained earnings balance for the year being closed, they affect the beginning retained earnings balance for the subsequent fiscal year. Consequently, bookkeepers should review the beginning retained earnings balance in QuickBooks to verify that it agrees to the ending retained earnings balance from the prior fiscal year. In addition, bookkeepers may need to transfer the balance in the retained earnings account to a more appropriate equity account (such as proprietor’s capital or partners’ capital) if the client is not a corporation. The discussion beginning in the following paragraph provides additional guidance on adjusting retained earnings in QuickBooks.
Retained Earnings
Bookkeepers may need to adjust the balance in the “Retained Earnings” account for a number of reasons. For example:
• Clients may have posted transactions to a prior fiscal year erroneously. Consequently, the beginning retained earnings balance in QuickBooks may not agree to the ending retained earnings balance from the prior closed fiscal year.
• The prior year income and expense balances that QuickBooks automatically posts to the “Retained Earnings” account may need to be transferred to another equity account.
Bookkeepers can determine whether the balance in the “Retained Earnings” account needs to be adjusted by generating the “Balance Sheet” and “Profit & Loss” reports in QuickBooks. Those reports can be generated by selecting “Company & Financial” from the “Reports” menu. The “Balance Sheet” report should be generated as of the first day of the client’s current fiscal year. The “Profit & Loss” report should be generated for the period from the QuickBooks start date to the last day of the client’s preceding fiscal year. The “Retained Earnings” balance on the “Balance Sheet” report should equal the “Net Income” amount on the cumulative “Profit & Loss” report. If the amounts do not match, bookkeepers should verify that the difference results from transferring amounts from the “Retained Earnings” account to other equity accounts. Bookkeepers can generate a report to review adjustments to the “Retained Earnings” account by selecting “Accountant & Taxes” and then “Transaction List by Date” from the “Reports” menu. That report should be generated for the same time period as the “Profit & Loss” report (i.e., from the QuickBooks start date to the last day of the client’s preceding fiscal year). Bookkeepers also should filter the report by clicking the “Modify Report” button and the “Filter” tab. Select “Account” from the “Filter” drop-down list, select “Multiple accounts” from the “Account” drop-down list, and then select “Retained Earnings.”
Bookkeepers can adjust the balance in the “Retained Earnings” account by recording a journal entry or posting a transaction to the account register of another affected equity account. QuickBooks does not provide an account register for the “Retained Earnings” account since it is a special automatically created account that QuickBooks uses only for report purposes. QuickBooks posts all income and expense transactions recorded with a date in a previous fiscal year to retained earnings in the current fiscal year. Although the QuickBooks adjustments do not affect the ending retained earnings balance for a closed year, they affect the beginning retained earnings balance for the current fiscal year. QuickBooks users can view postings (both automatic closing entries and manual entries) to the “Retained Earnings” account by using the “QuickZoom” feature in reports or from the “Chart of Accounts” list. When users double-click on the “Retained Earnings” amount in a report, the “Transactions by Account” for the “Retained Earnings” account displays all transactions for the “Retained Earnings” account for the selected period. Alternatively, users can select “Chart of Accounts” from the “Lists” menu, highlight the “Retained Earnings” account, and select “QuickReport” from the “Reports” drop-down list. The QuickReport displays all transactions for the “Retained Earnings” account for the selected period.
Other Equity Accounts
In addition to analyzing the retained earnings account, bookkeepers should analyze the balances in any other equity accounts. Bookkeepers may need to transfer the income and expense amounts that QuickBooks automatically posts to the retained earnings account to a more appropriate equity account (such as proprietor’s capital or partners’ capital) if the client is not a corporation. For example, a sole proprietorship may want to maintain an equity account such as “Proprietor’s Capital,” with subaccounts for “Capital Contributed” and “Capital Withdrawn.” Similarly, a partnership may want to maintain a separate equity account such as “Partners’ Capital” for each partner, with subaccounts for “Capital Contributed” and “Capital Withdrawn.” A partnership also could maintain separate equity accounts for the general partner and the limited partners rather than for each individual partner. At the end of each fiscal year, bookkeepers should transfer any balances in “Capital Contributed” and “Capital Withdrawn” subaccounts to the applicable parent account. That allows the subaccounts to track information needed for financial reporting on a fiscal year basis while the parent account tracks the cumulative equity balance.
Even though corporations may not need to transfer automatically posted balances from the retained earnings account to a more appropriate equity account, they may need to maintain additional equity accounts. For example, most corporations need a separate equity account for “Common Stock.” In addition, many corporations need separate equity accounts for “Additional Paid-in Capital” and “Treasury Stock.” Corporations also should consider maintaining a separate retained earnings subaccount for “Dividends.” (At the end of each fiscal year, bookkeepers should transfer cash dividends posted in the “Dividends” subaccount to the “Retained Earnings” parent account.) For tax purposes, S corporations may want to maintain separate retained earnings subaccounts for “Accumulated Adjustments Account (AAA),” “Previously Taxed Income (PTI),” “Accumulated Earnings and Profits (AEP),” “Tax Temporary Adjustments (TTA),” and “Other Retained Earnings (ORE).” Although financial statements for an S corporation generally present a single balance sheet caption and amount for retained earnings, maintaining separate retained earnings subaccounts may facilitate income tax reporting.
Restricting Access to Prior-period Data
Unlike other accounting software, QuickBooks does not require users to close their books at the end of a fiscal year. Consequently, users can continue posting transactions to a fiscal year even after the practitioner has recorded all adjustments for the year and prepared financial statements. However, bookkeepers can request that users protect that data in QuickBooks by performing the following procedures:
• Set the closing date and password protect it.
• Set up permissions that restrict access to the data.
Setting the Closing Date. The first step in restricting access to prior fiscal year transactions is to set the closing date so that QuickBooks users cannot add or change transactions dated on or before that date. Bookkeepers may want to restrict access to prior periods more frequently, for example, quarterly or monthly. This would narrow the period in which users can delete or change previous transactions. The QuickBooks Administrator (or the External Accountant) can set the closing date and password as follows:
• Select “Set Closing Date” from the “Company” menu. (Alternatively, select “Preferences” from the “Edit” menu, then select “Accounting” from the scroll-down list, and then select the “Company Preferences” tab. Or, select “Set Up Users and Passwords” and then “‘Set Up Users” from the “Company” menu and click the “Closing Date” button in the “User List” window.
• Enter the date through which books are closed (i.e., the ending date of the fiscal period) in the “Set Closing Date and Password” window.
• Enter and confirm the password and click “OK.” (This step is optional.) QuickBooks will require users to enter the password when they post to a closed period.
The QuickBooks Premier-Accountant user with permission can set the closing date and password by selecting “Set Closing Date” from the “Accountant” menu and then following the same steps as the Administrator. While bookkeepers working with an accountant’s copy cannot set the closing date, the client is prompted to set or update their closing date and password after importing accountant’s copy changes. The QuickBooks Administrator and the External Accountant are the only users who can set the closing date in QuickBooks Pro and Premier. In QuickBooks Premier-Accountant, a user other than the Administrator or External Accountant may set the closing date and password protect it, if he or she has been given permission to sensitive accounting activities. QuickBooks Premier and Premier-Accountant include a “Closing Date Exception Report” that shows transactions dated on or before the closing date that were either modified or entered after the Administrator or External Accountant established the closing date. To reach the report, select “Accountant & Taxes” and then “Closing Date Exception Report” from the “Reports” menu.
Note: QuickBooks users should be aware that changes or deletions of closing dates are not reflected on the “Audit Trail” report.
QuickBooks does not allow any access to be denied to the QuickBooks Administrator or External Accountant. Consequently, the QuickBooks Administrator or External Accountant can continue to add, change, or delete transactions dated on or before the closing date, even after the closing date is set. However, QuickBooks displays a message if the QuickBooks Administrator or External Accountant user tries to add, change, or delete a transaction dated on or before the closing date:
At least the message might help prevent the QuickBooks user from accidentally posting a transaction that affects a prior fiscal period. If the QuickBooks user ignores the message and posts a transaction to a prior fiscal period, the only way to track the change is through the “Audit Trail” report.
Setting up Access Permissions. Even though the closing date does not restrict the QuickBooks Administrator’s or External Accountant user’s access to prior-period transactions, it can be used along with access permissions to restrict the access of other QuickBooks users. Consequently, the second step in restricting access to prior fiscal year transactions is to set up permissions that restrict access to transactions dated on or before the closing date. The QuickBooks Administrator can restrict the access of other users to specific areas within QuickBooks (such as sales and accounts receivable or purchases and accounts payable). However, even users that have access to those areas cannot change or delete previously recorded transactions unless they are specifically given that permission. Even if a user has permission to change or delete transactions in areas in which they have access, the QuickBooks Administrator can prohibit the user from adding, changing, or deleting transactions recorded before the closing date. The QuickBooks Administrator can restrict access to prior-period transactions as follows:
• Select “Set Up Users and Passwords” and then “Set Up Users” from the “Company” menu.
• Click the “Add User” or “Edit User” button (as applicable) in the “User List” window.
• Click “Next” at the bottom of each window until reaching the “Changing or Deleting Transactions” window.
• Select “Yes” or “No,” as applicable, in response to the first question, “Do you want this user to have the ability to change or delete transactions in the areas they have access to?”
• Select “No” in response to the second question, “Should this user also have the ability to change or delete transactions that were recorded before the closing date?” (QuickBooks automatically selects “No” and prohibits the administrator from answering this question if “No” is selected in response to the previous question.)
The QuickBooks Administrator always should deny users access to transactions dated before the closing date. If the user has access to add, change, or delete transactions before the closing date and a password is set, QuickBooks will display a warning message.
Detecting Changes in Prior Year Data
QuickBooks allows users to set a closing date, select a password, and set up access permissions, but bookkeepers still should verify that the beginning balances for each balance sheet account equal the adjusted ending balances from prior years. The following methods may be used to detect changes in prior year balances:
• Audit Trail Report.
• Closing Date Exception Report.
• Journal Report.
• Opening Balance Equity.
• Retained Earnings.
Backing up QuickBooks Files
Both the client and the practitioner should make a backup copy of the client’s QuickBooks file after all adjustments have been posted at the end of the fiscal year. In addition, bookkeepers should file and archive hardcopy documents related to the file.
Cleaning up Prior Year Data
QuickBooks allows users to clean up their prior year data. The clean up data feature deletes detail transactions dated on or before a specified date and replaces them with transactions summarized by month. Although current fiscal year data should not be removed, bookkeepers can help their clients determine whether to clean up data from prior fiscal years. Data from the preceding fiscal year should not be removed until after the practitioner has made all necessary adjustments to that data and the client has filed all required payroll, sales tax, income tax, and 1099 forms for the specified date. QuickBooks requires users to make a backup copy of their files before cleaning up data.
Document Management
Today CPB firms cannot ignore the fact that the business world is growing more and more paperless. Going paperless really means going digital by converting data to digital formats. For many firms, managing documents using Windows Explorer and network directories is becoming increasingly more difficult. For effective document management, a majority of CPB firms today might consider a dedicated document management system that can promote standardization of the firm’s document naming conventions and document archival. In QuickBooks 2010, Intuit introduced an integrated document management service for QuickBooks users. In addition, QuickBooks users can use SmartVault, which transforms QuickBooks into a paperless system.
QuickBooks 2010
QuickBooks 2010 includes an integrated document management service for QuickBooks users. As well as allowing the user to attach documents to QuickBooks records, the user can also keep all of his or her uploaded documents in a central location. To learn more about the QuickBooks Document management service and to sign up, select “Document Management” and “Learn About Document Management” from the “Company” menu and click on the “Sign Me Up” button. There are several packages available, from the free version with 100MB of storage to the premium version ($29.95/mo) with 5GB storage.
After the user has signed up for the service, he or she must link the company file with this service. The QuickBooks Administrator should open the file he or she wants to use with the service and choose “Document Management” and then “Learn About Document Management” from the “Company” menu. He or she should then “Sign In” and enter the User ID and Password provided when he or she signed up for the service.
To access the “Document Management Center” after signing in, users should select “Document Management” and the “Document Management Center” from the “Company” menu. Also, since the “Document Management Center” is an online storage center, users can manage their documents without using QuickBooks. Users can access their online documents from any computer, by signing into https://workplace.intuit.com and entering their User ID and Password. The following illustrates the “Document Management Center.”
The “Document Management Center” lists the uploaded documents. Documents that have not been attached to a QuickBooks record are listed in the “Unattached Inbox.” Documents that are attached to a record are listed by type (i.e. Invoice) as well as in the “All” section.
Users must be given Document Management account permissions to access attachments. This is different than QuickBooks access. To manage user access to online documents in the “Document Management Center” click on the “Manage Users” button.
Users have several options for adding documents to the “Document Management Center.”
• Browse computer or local network for files.
• Scan documents from within the “Add to Online Document Inbox” window by selecting “Document Management” and then “Add to Online Document Inbox” from the “Company” menu. In this window users can add to the “Online Document Inbox” by clicking the “Scanner” button or, if it has already been scanned, by opening the “Local Files” window.
• Scan the document from within a QuickBooks list or transaction. For example, if they are in the “Create Invoices” window and they want to attach a Fed Ex Airbill they should click on the “Attach” button. QuickBooks warns that the transactions must be recorded before continuing. If the user clicks “Yes” the invoice will be recorded and the “Add Attachment From” window will open. The user can do several things from within the “Add Attachment From” window, including attaching files that are stored on a computer or network, accessing documents that are already uploaded but have not been attached to a QuickBooks record, scanning a document, and removing an attachment from a QuickBooks record. (The user can also delete the attachment from online storage at the same time.)
To view the attachment later, click on the “Attach” button in the record. A green paperclip on records indicates that something has been attached.
When closing the books at the end of a client’s fiscal year, bookkeepers should perform many of the same procedures for monthly reviews (such as reconciling bank statements and credit card statements and transferring uncategorized income and expense balances). In addition, bookkeepers should perform the following procedures when adjusting QuickBooks files at the end of a client’s fiscal year:
• Adjust Inventory. Bookkeepers should adjust inventory quantities in QuickBooks to agree to physical inventory counts. In addition, bookkeepers should adjust the balance in the “Inventory Asset” account to lower of cost or market if necessary.
• Adjust the Allowance for Doubtful Accounts. QuickBooks instructs users to record bad debt expense by (a) selecting “Receive Payments” from the “Customers” menu, (b) selecting the customer’s name from the drop-down list in the “Received From” field of the “Receive Payments” window, (c) leaving the amount field at 0.00, (d) highlighting the uncollectible outstanding invoice or statement charge, (e) clicking the “Discounts & Credits” button, (f) entering the bad debt amount in the “Amount of Discount” field in the “Discount and Credits” window, and (g) selecting the “Bad Debt Expense” account from the “Discount Account” drop-down list. That procedure debits “Bad Debt Expense” and credits “Accounts Receivable.” (That procedure also adjusts the affected customer invoice or statement but does not adjust any sales tax liability related to the uncollectible receivable.)
Under the allowance method, receivables that have not been specifically identified as uncollectible but that are estimated to be uncollectible should be reserved using an allowance for doubtful accounts. Bookkeepers often estimate uncollectible accounts using (a) the percentage of sales method, (b) the aging method, or (c) a weighted average method. Any receivables subsequently identified as uncollectible should be written off against the allowance for doubtful accounts. At the end of the client’s fiscal year, the practitioner should (a) compute bad debt expense, accounts receivable, and allowance for doubtful accounts balances using the allowance method; (b) review the client’s postings to the “Bad Debt Expense” account using the direct charge-off method; and (c) compare the results. If necessary, the practitioner should record a journal entry to adjust the “Bad Debt Expense,” “Allowance for Doubtful Accounts,” and “Accounts Receivable” accounts.
Note: Bookkeepers cannot record a journal entry that debits “Allowance for Doubtful Accounts” and credits “Accounts Receivable” if the allowance account has been set up as a subaccount of “Accounts Receivable.” QuickBooks does not allow users to post transactions to multiple accounts receivable accounts in the same journal entry. Recording a journal entry to credit “Accounts Receivable” adjusts a particular customer’s balance but does not adjust the affected customer invoice or statement.
• Adjust Gains or Losses on Fixed Asset Sales. Bookkeepers should verify that fixed asset sales are recorded correctly. Many clients erroneously credit a fixed asset gain/loss account or miscellaneous income account for the entire amount of the sales proceeds when recording a fixed asset sale. In that case, the practitioner should record a journal entry to (a) credit the fixed asset’s original cost, (b) debit accumulated depreciation, and (c) debit or credit the gain/loss account.
• Capitalize and Amortize Prepaid Assets. Clients often pay certain expenditures in advance, such as property and casualty insurance, property taxes, and advertising. Expenditures that benefit more than one year should be recorded as prepaid assets when paid and amortized over the appropriate period covered by the expenditure. Clients often record such disbursements as expenses when paid. If material, bookkeepers should capitalize prepaid assets by recording a journal entry that debits a prepaid assets account and credits the applicable expense accounts. In addition, bookkeepers should amortize prepaid assets by recording a journal entry that debits the applicable expense accounts and credits the prepaid assets account.
• Calculate and Record Depreciation. Bookkeepers should calculate and record depreciation on fixed assets.
• Record Interest Expense. Bookkeepers should record interest expense on loans and notes payable.
• Adjust Marketable Securities to Fair Value. Generally accepted accounting principles require marketable debt and equity securities to be recorded at fair value if they are available for sale or held for trading purposes. Consequently, bookkeepers should determine the fair value of such securities as of the client’s balance sheet date and record a journal entry to adjust the value of the securities. The journal entry should debit or credit the investment asset account for the increase or decrease in value. For available-for-sale securities, the offsetting amount should be recorded in other comprehensive income (unless a decline in value is considered to be other than temporary, in which case the offsetting amount should be recorded in current period income or expense). For trading securities, the offsetting amount should be recorded in current period income or expense. As a practical matter, bookkeepers for most small to medium-sized companies only adjust marketable debt or equity securities to fair value at year-end. Adjustments generally are not made during interim periods unless significant changes in fair value occur.
• Adjust Uncategorized Income and Expenses. Bookkeepers should transfer amounts from the “Uncategorized Income” and “Uncategorized Expenses” accounts to the appropriate general ledger accounts.
• Adjust Opening Balance Equity. Bookkeepers should transfer the balance in the “Opening Balance Equity” account to the applicable equity accounts.
The preceding items represent the most common journal entries that bookkeepers generally need to record at year-end for their QuickBooks clients. However, bookkeepers should review other general ledger accounts and perform detail account analysis.
Automatic Year-end Adjustments
QuickBooks automatically records certain year-end adjustments based on the month specified in the “First month in your fiscal year” field in the “Company Information” window. (Bookkeepers can verify that the correct month is specified in that window by selecting “Company Information” from the “Company” menu.) On the first day of the new fiscal year, QuickBooks:
• Zeroes out all income and expense accounts so that the new fiscal year begins with zero net income.
• Posts all income and expense balances to the “Retained Earnings” account (which QuickBooks automatically creates during the setup of the company).
Since QuickBooks does not record the preceding adjustments until the first day of the client’s new fiscal year, the adjustments do not affect account balances in the preceding fiscal year. As bookkeepers continue to adjust the client’s QuickBooks file for the preceding fiscal year, QuickBooks continues to post all income and expense transactions recorded with a date in the preceding fiscal year to retained earnings in the new fiscal year. Although the QuickBooks adjustments do not affect the ending retained earnings balance for the year being closed, they affect the beginning retained earnings balance for the subsequent fiscal year. Consequently, bookkeepers should review the beginning retained earnings balance in QuickBooks to verify that it agrees to the ending retained earnings balance from the prior fiscal year. In addition, bookkeepers may need to transfer the balance in the retained earnings account to a more appropriate equity account (such as proprietor’s capital or partners’ capital) if the client is not a corporation. The discussion beginning in the following paragraph provides additional guidance on adjusting retained earnings in QuickBooks.
Retained Earnings
Bookkeepers may need to adjust the balance in the “Retained Earnings” account for a number of reasons. For example:
• Clients may have posted transactions to a prior fiscal year erroneously. Consequently, the beginning retained earnings balance in QuickBooks may not agree to the ending retained earnings balance from the prior closed fiscal year.
• The prior year income and expense balances that QuickBooks automatically posts to the “Retained Earnings” account may need to be transferred to another equity account.
Bookkeepers can determine whether the balance in the “Retained Earnings” account needs to be adjusted by generating the “Balance Sheet” and “Profit & Loss” reports in QuickBooks. Those reports can be generated by selecting “Company & Financial” from the “Reports” menu. The “Balance Sheet” report should be generated as of the first day of the client’s current fiscal year. The “Profit & Loss” report should be generated for the period from the QuickBooks start date to the last day of the client’s preceding fiscal year. The “Retained Earnings” balance on the “Balance Sheet” report should equal the “Net Income” amount on the cumulative “Profit & Loss” report. If the amounts do not match, bookkeepers should verify that the difference results from transferring amounts from the “Retained Earnings” account to other equity accounts. Bookkeepers can generate a report to review adjustments to the “Retained Earnings” account by selecting “Accountant & Taxes” and then “Transaction List by Date” from the “Reports” menu. That report should be generated for the same time period as the “Profit & Loss” report (i.e., from the QuickBooks start date to the last day of the client’s preceding fiscal year). Bookkeepers also should filter the report by clicking the “Modify Report” button and the “Filter” tab. Select “Account” from the “Filter” drop-down list, select “Multiple accounts” from the “Account” drop-down list, and then select “Retained Earnings.”
Bookkeepers can adjust the balance in the “Retained Earnings” account by recording a journal entry or posting a transaction to the account register of another affected equity account. QuickBooks does not provide an account register for the “Retained Earnings” account since it is a special automatically created account that QuickBooks uses only for report purposes. QuickBooks posts all income and expense transactions recorded with a date in a previous fiscal year to retained earnings in the current fiscal year. Although the QuickBooks adjustments do not affect the ending retained earnings balance for a closed year, they affect the beginning retained earnings balance for the current fiscal year. QuickBooks users can view postings (both automatic closing entries and manual entries) to the “Retained Earnings” account by using the “QuickZoom” feature in reports or from the “Chart of Accounts” list. When users double-click on the “Retained Earnings” amount in a report, the “Transactions by Account” for the “Retained Earnings” account displays all transactions for the “Retained Earnings” account for the selected period. Alternatively, users can select “Chart of Accounts” from the “Lists” menu, highlight the “Retained Earnings” account, and select “QuickReport” from the “Reports” drop-down list. The QuickReport displays all transactions for the “Retained Earnings” account for the selected period.
Other Equity Accounts
In addition to analyzing the retained earnings account, bookkeepers should analyze the balances in any other equity accounts. Bookkeepers may need to transfer the income and expense amounts that QuickBooks automatically posts to the retained earnings account to a more appropriate equity account (such as proprietor’s capital or partners’ capital) if the client is not a corporation. For example, a sole proprietorship may want to maintain an equity account such as “Proprietor’s Capital,” with subaccounts for “Capital Contributed” and “Capital Withdrawn.” Similarly, a partnership may want to maintain a separate equity account such as “Partners’ Capital” for each partner, with subaccounts for “Capital Contributed” and “Capital Withdrawn.” A partnership also could maintain separate equity accounts for the general partner and the limited partners rather than for each individual partner. At the end of each fiscal year, bookkeepers should transfer any balances in “Capital Contributed” and “Capital Withdrawn” subaccounts to the applicable parent account. That allows the subaccounts to track information needed for financial reporting on a fiscal year basis while the parent account tracks the cumulative equity balance.
Even though corporations may not need to transfer automatically posted balances from the retained earnings account to a more appropriate equity account, they may need to maintain additional equity accounts. For example, most corporations need a separate equity account for “Common Stock.” In addition, many corporations need separate equity accounts for “Additional Paid-in Capital” and “Treasury Stock.” Corporations also should consider maintaining a separate retained earnings subaccount for “Dividends.” (At the end of each fiscal year, bookkeepers should transfer cash dividends posted in the “Dividends” subaccount to the “Retained Earnings” parent account.) For tax purposes, S corporations may want to maintain separate retained earnings subaccounts for “Accumulated Adjustments Account (AAA),” “Previously Taxed Income (PTI),” “Accumulated Earnings and Profits (AEP),” “Tax Temporary Adjustments (TTA),” and “Other Retained Earnings (ORE).” Although financial statements for an S corporation generally present a single balance sheet caption and amount for retained earnings, maintaining separate retained earnings subaccounts may facilitate income tax reporting.
Restricting Access to Prior-period Data
Unlike other accounting software, QuickBooks does not require users to close their books at the end of a fiscal year. Consequently, users can continue posting transactions to a fiscal year even after the practitioner has recorded all adjustments for the year and prepared financial statements. However, bookkeepers can request that users protect that data in QuickBooks by performing the following procedures:
• Set the closing date and password protect it.
• Set up permissions that restrict access to the data.
Setting the Closing Date. The first step in restricting access to prior fiscal year transactions is to set the closing date so that QuickBooks users cannot add or change transactions dated on or before that date. Bookkeepers may want to restrict access to prior periods more frequently, for example, quarterly or monthly. This would narrow the period in which users can delete or change previous transactions. The QuickBooks Administrator (or the External Accountant) can set the closing date and password as follows:
• Select “Set Closing Date” from the “Company” menu. (Alternatively, select “Preferences” from the “Edit” menu, then select “Accounting” from the scroll-down list, and then select the “Company Preferences” tab. Or, select “Set Up Users and Passwords” and then “‘Set Up Users” from the “Company” menu and click the “Closing Date” button in the “User List” window.
• Enter the date through which books are closed (i.e., the ending date of the fiscal period) in the “Set Closing Date and Password” window.
• Enter and confirm the password and click “OK.” (This step is optional.) QuickBooks will require users to enter the password when they post to a closed period.
The QuickBooks Premier-Accountant user with permission can set the closing date and password by selecting “Set Closing Date” from the “Accountant” menu and then following the same steps as the Administrator. While bookkeepers working with an accountant’s copy cannot set the closing date, the client is prompted to set or update their closing date and password after importing accountant’s copy changes. The QuickBooks Administrator and the External Accountant are the only users who can set the closing date in QuickBooks Pro and Premier. In QuickBooks Premier-Accountant, a user other than the Administrator or External Accountant may set the closing date and password protect it, if he or she has been given permission to sensitive accounting activities. QuickBooks Premier and Premier-Accountant include a “Closing Date Exception Report” that shows transactions dated on or before the closing date that were either modified or entered after the Administrator or External Accountant established the closing date. To reach the report, select “Accountant & Taxes” and then “Closing Date Exception Report” from the “Reports” menu.
Note: QuickBooks users should be aware that changes or deletions of closing dates are not reflected on the “Audit Trail” report.
QuickBooks does not allow any access to be denied to the QuickBooks Administrator or External Accountant. Consequently, the QuickBooks Administrator or External Accountant can continue to add, change, or delete transactions dated on or before the closing date, even after the closing date is set. However, QuickBooks displays a message if the QuickBooks Administrator or External Accountant user tries to add, change, or delete a transaction dated on or before the closing date:
At least the message might help prevent the QuickBooks user from accidentally posting a transaction that affects a prior fiscal period. If the QuickBooks user ignores the message and posts a transaction to a prior fiscal period, the only way to track the change is through the “Audit Trail” report.
Setting up Access Permissions. Even though the closing date does not restrict the QuickBooks Administrator’s or External Accountant user’s access to prior-period transactions, it can be used along with access permissions to restrict the access of other QuickBooks users. Consequently, the second step in restricting access to prior fiscal year transactions is to set up permissions that restrict access to transactions dated on or before the closing date. The QuickBooks Administrator can restrict the access of other users to specific areas within QuickBooks (such as sales and accounts receivable or purchases and accounts payable). However, even users that have access to those areas cannot change or delete previously recorded transactions unless they are specifically given that permission. Even if a user has permission to change or delete transactions in areas in which they have access, the QuickBooks Administrator can prohibit the user from adding, changing, or deleting transactions recorded before the closing date. The QuickBooks Administrator can restrict access to prior-period transactions as follows:
• Select “Set Up Users and Passwords” and then “Set Up Users” from the “Company” menu.
• Click the “Add User” or “Edit User” button (as applicable) in the “User List” window.
• Click “Next” at the bottom of each window until reaching the “Changing or Deleting Transactions” window.
• Select “Yes” or “No,” as applicable, in response to the first question, “Do you want this user to have the ability to change or delete transactions in the areas they have access to?”
• Select “No” in response to the second question, “Should this user also have the ability to change or delete transactions that were recorded before the closing date?” (QuickBooks automatically selects “No” and prohibits the administrator from answering this question if “No” is selected in response to the previous question.)
The QuickBooks Administrator always should deny users access to transactions dated before the closing date. If the user has access to add, change, or delete transactions before the closing date and a password is set, QuickBooks will display a warning message.
Detecting Changes in Prior Year Data
QuickBooks allows users to set a closing date, select a password, and set up access permissions, but bookkeepers still should verify that the beginning balances for each balance sheet account equal the adjusted ending balances from prior years. The following methods may be used to detect changes in prior year balances:
• Audit Trail Report.
• Closing Date Exception Report.
• Journal Report.
• Opening Balance Equity.
• Retained Earnings.
Backing up QuickBooks Files
Both the client and the practitioner should make a backup copy of the client’s QuickBooks file after all adjustments have been posted at the end of the fiscal year. In addition, bookkeepers should file and archive hardcopy documents related to the file.
Cleaning up Prior Year Data
QuickBooks allows users to clean up their prior year data. The clean up data feature deletes detail transactions dated on or before a specified date and replaces them with transactions summarized by month. Although current fiscal year data should not be removed, bookkeepers can help their clients determine whether to clean up data from prior fiscal years. Data from the preceding fiscal year should not be removed until after the practitioner has made all necessary adjustments to that data and the client has filed all required payroll, sales tax, income tax, and 1099 forms for the specified date. QuickBooks requires users to make a backup copy of their files before cleaning up data.
Document Management
Today CPB firms cannot ignore the fact that the business world is growing more and more paperless. Going paperless really means going digital by converting data to digital formats. For many firms, managing documents using Windows Explorer and network directories is becoming increasingly more difficult. For effective document management, a majority of CPB firms today might consider a dedicated document management system that can promote standardization of the firm’s document naming conventions and document archival. In QuickBooks 2010, Intuit introduced an integrated document management service for QuickBooks users. In addition, QuickBooks users can use SmartVault, which transforms QuickBooks into a paperless system.
QuickBooks 2010
QuickBooks 2010 includes an integrated document management service for QuickBooks users. As well as allowing the user to attach documents to QuickBooks records, the user can also keep all of his or her uploaded documents in a central location. To learn more about the QuickBooks Document management service and to sign up, select “Document Management” and “Learn About Document Management” from the “Company” menu and click on the “Sign Me Up” button. There are several packages available, from the free version with 100MB of storage to the premium version ($29.95/mo) with 5GB storage.
After the user has signed up for the service, he or she must link the company file with this service. The QuickBooks Administrator should open the file he or she wants to use with the service and choose “Document Management” and then “Learn About Document Management” from the “Company” menu. He or she should then “Sign In” and enter the User ID and Password provided when he or she signed up for the service.
To access the “Document Management Center” after signing in, users should select “Document Management” and the “Document Management Center” from the “Company” menu. Also, since the “Document Management Center” is an online storage center, users can manage their documents without using QuickBooks. Users can access their online documents from any computer, by signing into https://workplace.intuit.com and entering their User ID and Password. The following illustrates the “Document Management Center.”
The “Document Management Center” lists the uploaded documents. Documents that have not been attached to a QuickBooks record are listed in the “Unattached Inbox.” Documents that are attached to a record are listed by type (i.e. Invoice) as well as in the “All” section.
Users must be given Document Management account permissions to access attachments. This is different than QuickBooks access. To manage user access to online documents in the “Document Management Center” click on the “Manage Users” button.
Users have several options for adding documents to the “Document Management Center.”
• Browse computer or local network for files.
• Scan documents from within the “Add to Online Document Inbox” window by selecting “Document Management” and then “Add to Online Document Inbox” from the “Company” menu. In this window users can add to the “Online Document Inbox” by clicking the “Scanner” button or, if it has already been scanned, by opening the “Local Files” window.
• Scan the document from within a QuickBooks list or transaction. For example, if they are in the “Create Invoices” window and they want to attach a Fed Ex Airbill they should click on the “Attach” button. QuickBooks warns that the transactions must be recorded before continuing. If the user clicks “Yes” the invoice will be recorded and the “Add Attachment From” window will open. The user can do several things from within the “Add Attachment From” window, including attaching files that are stored on a computer or network, accessing documents that are already uploaded but have not been attached to a QuickBooks record, scanning a document, and removing an attachment from a QuickBooks record. (The user can also delete the attachment from online storage at the same time.)
To view the attachment later, click on the “Attach” button in the record. A green paperclip on records indicates that something has been attached.
Deadline To Implement New Withholding Tables And 4.2% Employee OASDI Rate Draws Near
Employers are reminded of the pending Jan. 31, 2011 deadline for implementing the new 2011 withholding tables and 4.2% employee Social Security tax rate, which reflect changes made by the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (2010 Tax Relief Act, P.L. 111-312). Employers are further reminded that, after implementing the new 4.2% rate, they should make an offsetting adjustment in a subsequent pay period to correct any Social Security tax overwithholding by Mar. 31, 2011.
New law income tax changes for 2011. The 2010 Tax Relief Act made many changes affecting employee income tax withholding for 2011. For example, by delaying sunsetting tax provisions for two years, it kept in place today's favorable income tax rates for individuals and prevented married taxpayers filing jointly who claim the standard deduction from being penalized by a marriage penalty.
New law payroll tax holiday. The 2010 Tax Relief Act also reduced the employee OASDI tax rate under the FICA tax by two percentage points, to 4.2%, for remuneration received during 2011. As a result, for 2011, employees will pay only 4.2% Social Security tax on wages up to $106,800 (the Social Security wage base limit). The employer tax rate for Social Security remains unchanged at 6.2%.
Observation: The maximum reduction in FICA tax for an individual employee is $2,136 ($106,800 ×.02). For a married couple, each with wages of $106,800 or more, the maximum reduction is $4,272.
Implementing the 2010 Tax Relief Act. Although withholding tables are typically released annually in November to give payroll professionals sufficient time to get the tables into their computer systems before the new rates go into effect in January, they were delayed for 2011 because of uncertainty regarding the 2011 tax rates. In late December, following the passage of the 2010 Tax Relief Act, IRS issued Notice 1036, Early Release Copies of the 2011 Percentage Method Tables for Income Tax Withholding, carrying advance copies of the 2011 percentage method tables for income tax withholding. The tables reflect changes made by the 2010 Tax Relief Act.
Notice 1036 and an accompanying news release, IR 2010-124, explained that employers should implement the new 2011 withholding tables and 4.2% employee Social Security tax rate as soon as possible, but not later than Jan. 31, 2011. After implementing the new 4.2% rate, employers are also instructed to make an offsetting adjustment in a subsequent pay period to correct any Social Security tax overwithholding as soon as possible, but not later than Mar. 31, 2011. These rules were covered further in Publication 15 (Circular E), Employer's Tax Guide for use in 2011.
References: For withholding on wages, see FTC 2d/FIN ¶H-4220; United States Tax Reporter ¶34,014; TaxDesk ¶532,000; TG ¶9150.
New law income tax changes for 2011. The 2010 Tax Relief Act made many changes affecting employee income tax withholding for 2011. For example, by delaying sunsetting tax provisions for two years, it kept in place today's favorable income tax rates for individuals and prevented married taxpayers filing jointly who claim the standard deduction from being penalized by a marriage penalty.
New law payroll tax holiday. The 2010 Tax Relief Act also reduced the employee OASDI tax rate under the FICA tax by two percentage points, to 4.2%, for remuneration received during 2011. As a result, for 2011, employees will pay only 4.2% Social Security tax on wages up to $106,800 (the Social Security wage base limit). The employer tax rate for Social Security remains unchanged at 6.2%.
Observation: The maximum reduction in FICA tax for an individual employee is $2,136 ($106,800 ×.02). For a married couple, each with wages of $106,800 or more, the maximum reduction is $4,272.
Implementing the 2010 Tax Relief Act. Although withholding tables are typically released annually in November to give payroll professionals sufficient time to get the tables into their computer systems before the new rates go into effect in January, they were delayed for 2011 because of uncertainty regarding the 2011 tax rates. In late December, following the passage of the 2010 Tax Relief Act, IRS issued Notice 1036, Early Release Copies of the 2011 Percentage Method Tables for Income Tax Withholding, carrying advance copies of the 2011 percentage method tables for income tax withholding. The tables reflect changes made by the 2010 Tax Relief Act.
Notice 1036 and an accompanying news release, IR 2010-124, explained that employers should implement the new 2011 withholding tables and 4.2% employee Social Security tax rate as soon as possible, but not later than Jan. 31, 2011. After implementing the new 4.2% rate, employers are also instructed to make an offsetting adjustment in a subsequent pay period to correct any Social Security tax overwithholding as soon as possible, but not later than Mar. 31, 2011. These rules were covered further in Publication 15 (Circular E), Employer's Tax Guide for use in 2011.
References: For withholding on wages, see FTC 2d/FIN ¶H-4220; United States Tax Reporter ¶34,014; TaxDesk ¶532,000; TG ¶9150.
IRS Isn't Required To Turn Over An Overpayment Credited Against Next Year's Tax To Chap. 7 Trustee
Chief Counsel Advice 201103020
In Chief Counsel Advice (CCA), IRS has concluded that once a taxpayer's prepetition Code Sec. 6402(b) election to credit an overpayment to future tax liabilities has become irrevocable, IRS isn't required to turn the overpayment over to a Chapter 7 bankruptcy trustee. In so holding, IRS determined that the taxpayer had no right to a refund of the overpayment at the time that the bankruptcy case was commenced, so the overpayment wasn't a debt owed to the taxpayer subject to turnover under 11 USC 542.
Background on bankruptcy estate property. Under 11 USC 541, property of the bankruptcy estate generally includes all legal and equitable interests of the debtor in property as of the commencement of the case. If the debtor had the right to claim a tax refund, the right to claim a refund and to bring a refund suit, if necessary, becomes property of the estate. Any such refund claim would be a debt owed to the debtor and should be paid to a Chapter 7 trustee under 11 USC 542(b).
Background on overpayments. Instead of receiving a refund of an income tax overpayment, a taxpayer may elect under Code Sec. 6402(b) to apply all or part of the overpayment for a tax year towards the estimated tax for the immediately succeeding tax year. The election is generally made on the taxpayer's original or amended return for the year of the overpayment. If a Code Sec. 6402(b) election is made, Code Sec. 6513(d) places the overpayment beyond the reach of the taxpayer, stating that “no claim for refund of such overpayment shall be allowed for the taxable year in which the overpayment arises.”
Facts. Married taxpayers filed Form 1040 for tax year 2008 on Mar. 10, 2009, reporting a $2,000 overpayment. They requested a refund of $1,200 and elected to apply the remaining $800 to their tax liability for 2009. Sometime after making the election to credit their 2008 overpayment to their 2009 taxes and after the deadline for filing their 2008 tax return had passed, the taxpayers filed a voluntary petition for Chapter 7 bankruptcy. The bankruptcy trustee requested that the $800 be turned over to him pursuant to 11 USC 542.
Analysis. IRS concluded that, since a taxpayer has no right to demand the refund of an overpayment for which a Code Sec. 6402(b) election has been made, that overpayment is not a debt owing to the debtor subject to turnover under 11 USC 542. IRS noted that a Code Sec. 6402(b) election is generally treated by the courts as being irrevocable and binding against both the taxpayer and IRS.
IRS's decision was consistent with that of the Court of Appeals for the Tenth Circuit in Weinman v. Graves, (CA 10 6/29/2010) 106 AFTR 2d 2010-5050. In Graves, a Chapter 7 trustee sought an order compelling the debtor to turn over the value of an overpayment for which the debtor had made a prepetition election under Code Sec. 6402(b) to apply to the next year's estimated tax liability. The Court emphasized that a bankruptcy trustee succeeds only to the title and rights in property that the debtor had at the time that the bankruptcy petition was filed and held that, since the debtor didn't possess any right to the overpayment, the trustee similarly had no such right.
IRS acknowledged that the Graves decision was “at odds” with the Court of Appeals for the Ninth Circuit's decision in Nichols v. Birdsell, (CA 9 5/9/2007) 99 AFTR 2d 2007-2730, which also involved an overpayment for which a prepetition Code Sec. 6402(b) election had been made. In Nichols, the Ninth Circuit analogized the effect of the debtors' election to a credit that provided a dollar-for-dollar tax reduction in the following year and ordered the debtors to pay over the value of the credit to the trustee. However, IRS agreed with the Tenth Circuit's statement in the Graves decision that, since the Nichols court “neither discussed turnover nor analyzed the case in light of the language of 11 USC 542(a),” it was unclear “how the Ninth Circuit would apply the statutory requirements for turnover.” IRS further distinguished Nichols on the ground that it involved a turnover request against the debtor, not a 11 USC 542(b) turnover request against IRS.
References: For the estate's right to refund applied by debtor to prepayment of taxes before bankruptcy, see FTC 2d/FIN ¶T-5742.2. For an individual's election to apply an overpayment to next year's estimated tax, see FTC 2d/FIN ¶S-5250; TaxDesk ¶577,510; TG ¶70801. For the status in bankruptcy of rights to refunds, see FTC 2d/FIN ¶C-9811; United States Tax Reporter ¶13,984.03; TaxDesk ¶577,510; TG ¶70727.
In Chief Counsel Advice (CCA), IRS has concluded that once a taxpayer's prepetition Code Sec. 6402(b) election to credit an overpayment to future tax liabilities has become irrevocable, IRS isn't required to turn the overpayment over to a Chapter 7 bankruptcy trustee. In so holding, IRS determined that the taxpayer had no right to a refund of the overpayment at the time that the bankruptcy case was commenced, so the overpayment wasn't a debt owed to the taxpayer subject to turnover under 11 USC 542.
Background on bankruptcy estate property. Under 11 USC 541, property of the bankruptcy estate generally includes all legal and equitable interests of the debtor in property as of the commencement of the case. If the debtor had the right to claim a tax refund, the right to claim a refund and to bring a refund suit, if necessary, becomes property of the estate. Any such refund claim would be a debt owed to the debtor and should be paid to a Chapter 7 trustee under 11 USC 542(b).
Background on overpayments. Instead of receiving a refund of an income tax overpayment, a taxpayer may elect under Code Sec. 6402(b) to apply all or part of the overpayment for a tax year towards the estimated tax for the immediately succeeding tax year. The election is generally made on the taxpayer's original or amended return for the year of the overpayment. If a Code Sec. 6402(b) election is made, Code Sec. 6513(d) places the overpayment beyond the reach of the taxpayer, stating that “no claim for refund of such overpayment shall be allowed for the taxable year in which the overpayment arises.”
Facts. Married taxpayers filed Form 1040 for tax year 2008 on Mar. 10, 2009, reporting a $2,000 overpayment. They requested a refund of $1,200 and elected to apply the remaining $800 to their tax liability for 2009. Sometime after making the election to credit their 2008 overpayment to their 2009 taxes and after the deadline for filing their 2008 tax return had passed, the taxpayers filed a voluntary petition for Chapter 7 bankruptcy. The bankruptcy trustee requested that the $800 be turned over to him pursuant to 11 USC 542.
Analysis. IRS concluded that, since a taxpayer has no right to demand the refund of an overpayment for which a Code Sec. 6402(b) election has been made, that overpayment is not a debt owing to the debtor subject to turnover under 11 USC 542. IRS noted that a Code Sec. 6402(b) election is generally treated by the courts as being irrevocable and binding against both the taxpayer and IRS.
IRS's decision was consistent with that of the Court of Appeals for the Tenth Circuit in Weinman v. Graves, (CA 10 6/29/2010) 106 AFTR 2d 2010-5050. In Graves, a Chapter 7 trustee sought an order compelling the debtor to turn over the value of an overpayment for which the debtor had made a prepetition election under Code Sec. 6402(b) to apply to the next year's estimated tax liability. The Court emphasized that a bankruptcy trustee succeeds only to the title and rights in property that the debtor had at the time that the bankruptcy petition was filed and held that, since the debtor didn't possess any right to the overpayment, the trustee similarly had no such right.
IRS acknowledged that the Graves decision was “at odds” with the Court of Appeals for the Ninth Circuit's decision in Nichols v. Birdsell, (CA 9 5/9/2007) 99 AFTR 2d 2007-2730, which also involved an overpayment for which a prepetition Code Sec. 6402(b) election had been made. In Nichols, the Ninth Circuit analogized the effect of the debtors' election to a credit that provided a dollar-for-dollar tax reduction in the following year and ordered the debtors to pay over the value of the credit to the trustee. However, IRS agreed with the Tenth Circuit's statement in the Graves decision that, since the Nichols court “neither discussed turnover nor analyzed the case in light of the language of 11 USC 542(a),” it was unclear “how the Ninth Circuit would apply the statutory requirements for turnover.” IRS further distinguished Nichols on the ground that it involved a turnover request against the debtor, not a 11 USC 542(b) turnover request against IRS.
References: For the estate's right to refund applied by debtor to prepayment of taxes before bankruptcy, see FTC 2d/FIN ¶T-5742.2. For an individual's election to apply an overpayment to next year's estimated tax, see FTC 2d/FIN ¶S-5250; TaxDesk ¶577,510; TG ¶70801. For the status in bankruptcy of rights to refunds, see FTC 2d/FIN ¶C-9811; United States Tax Reporter ¶13,984.03; TaxDesk ¶577,510; TG ¶70727.
Bipartisan Bill To Repeal Expanded Form 1099 Reporting Is Introduced In The Senate
On Jan. 25, Senate Finance Committee Chairman Max Baucus (D-MT) and Senate Majority Leader Harry Reid (D-NV) introduced a bipartisan bill that would repeal the new Form 1099 reporting requirements for businesses. The bipartisan legislation would repeal requirements for businesses to report payments made for goods and certain services to IRS using Form 1099. As businesses have become aware of the new paperwork requirements, they've raised concerns about the resources that would be required to complete the forms when they would need to begin doing so in January 2012.
In general, under current law, information returns must be made to IRS by every person engaged in a trade or business who makes payments for services, aggregating $600 or more, in any tax year to another person (other than corporations) in the course of the payor's trade or business. Effective for payments made after 2011, Sec. 9006 of the Patient Protection and Affordable Care Act would add payments of amounts in consideration for property and gross proceeds—i.e., it would add payments for goods—to the list of payments subject to reporting. In addition, it provides that starting in 2012, payments to corporations (that are not tax-exempt)—which had previously been exempt from the reporting requirement—would be subject to information reporting.
Baucus had previously introduced legislation to repeal the Form 1099 reporting requirements during the 111th Congress in November 2010.
In general, under current law, information returns must be made to IRS by every person engaged in a trade or business who makes payments for services, aggregating $600 or more, in any tax year to another person (other than corporations) in the course of the payor's trade or business. Effective for payments made after 2011, Sec. 9006 of the Patient Protection and Affordable Care Act would add payments of amounts in consideration for property and gross proceeds—i.e., it would add payments for goods—to the list of payments subject to reporting. In addition, it provides that starting in 2012, payments to corporations (that are not tax-exempt)—which had previously been exempt from the reporting requirement—would be subject to information reporting.
Baucus had previously introduced legislation to repeal the Form 1099 reporting requirements during the 111th Congress in November 2010.
Workers Urged to Check Eligibly for EITC; IRS and Partners Mark 5th EITC Awareness Day
The Internal Revenue Service and partners nationwide mark the 5th Earned Income Tax Credit Awareness Day on Friday, Jan. 28. This initiative highlights the availability of one of the federal government’s largest benefit programs for working families and individuals.
The American Recovery and Reinvestment Act of 2009 created a new category of families with three or more children and increased the maximum benefit of EITC for tax years 2009 and 2010. The Tax Relief and Job Creation Act of 2010 extended these changes through 2012.
The maximum credit for 2010 tax returns is $5,666 for workers with three or more qualifying children. However, workers without qualifying children may also be eligible for a smaller credit amount.
"Millions of workers who did not earn high incomes claimed the EITC last year," said Doug Shulman, IRS commissioner. "The IRS encourages all eligible taxpayers to claim this valuable credit. Together with our partners, we can help taxpayers file their returns and get the EITC."
Workers who earned $48,362 or less from wages, self-employment or farm income last year could receive larger refunds if they qualify for the EITC. Four out of five eligible taxpayers claimed the EITC last year obtaining an extra $2,200 from the credit on average. This represents a critical financial boost to over 26 million workers who earn low to moderate incomes.
Eligibility for the EITC is determined based on a number of factors including earnings, filing status and eligible children. Many people who experienced a change in these factors will qualify for the first time this year and may not be aware of the credit.
Taxpayers must file a tax return, even if they do not have a filing requirement, and specifically claim the credit. Those who typically fail to claim the EITC include rural workers and their families; non-traditional families, such as grandparents or foster parents raising children; taxpayers without qualifying children; individuals with limited English proficiency; Native Americans; and taxpayers with disabilities.
You earned it. Now file, claim it and get it
It is easy to verify eligibility for EITC by going to www.irs.gov and typing "EITC" into the search box. There is an online EITC Assistant, which can help taxpayers determine eligibility by answering a few simple questions.
There are several ways to file a tax return to claim the EITC for free:
• Free File on IRS.gov This free tax software and free electronic filing program will walk taxpayers through a question and answer format and help them claim the tax credits and deductions for which they are eligible.
• Free tax preparation sites EITC-eligible taxpayers can seek free tax preparation nationwide at more than 12,000 volunteer individual tax assistance sites. To locate a site, taxpayers may check a nationwide free tax preparation site list available at http://www.IRS.gov. They can also call the community’s 211 or 311 number for local services or call the IRS at 800-906-9887.
• IRS Taxpayer Assistance Centers EITC-eligible taxpayers can seek free assistance in 400 IRS locations across the country. Locations are online at www.irs.gov.
On Saturday, Jan. 29, and Saturday, Feb. 5, the IRS will open selected offices to provide special assistance to EITC eligible taxpayers. In addition, a number of community partners will also open their doors. Locations nationwide are listed on www.IRS.gov.
More information and the details of eligibility rules are available at www.irs.gov/eitc.
The American Recovery and Reinvestment Act of 2009 created a new category of families with three or more children and increased the maximum benefit of EITC for tax years 2009 and 2010. The Tax Relief and Job Creation Act of 2010 extended these changes through 2012.
The maximum credit for 2010 tax returns is $5,666 for workers with three or more qualifying children. However, workers without qualifying children may also be eligible for a smaller credit amount.
"Millions of workers who did not earn high incomes claimed the EITC last year," said Doug Shulman, IRS commissioner. "The IRS encourages all eligible taxpayers to claim this valuable credit. Together with our partners, we can help taxpayers file their returns and get the EITC."
Workers who earned $48,362 or less from wages, self-employment or farm income last year could receive larger refunds if they qualify for the EITC. Four out of five eligible taxpayers claimed the EITC last year obtaining an extra $2,200 from the credit on average. This represents a critical financial boost to over 26 million workers who earn low to moderate incomes.
Eligibility for the EITC is determined based on a number of factors including earnings, filing status and eligible children. Many people who experienced a change in these factors will qualify for the first time this year and may not be aware of the credit.
Taxpayers must file a tax return, even if they do not have a filing requirement, and specifically claim the credit. Those who typically fail to claim the EITC include rural workers and their families; non-traditional families, such as grandparents or foster parents raising children; taxpayers without qualifying children; individuals with limited English proficiency; Native Americans; and taxpayers with disabilities.
You earned it. Now file, claim it and get it
It is easy to verify eligibility for EITC by going to www.irs.gov and typing "EITC" into the search box. There is an online EITC Assistant, which can help taxpayers determine eligibility by answering a few simple questions.
There are several ways to file a tax return to claim the EITC for free:
• Free File on IRS.gov This free tax software and free electronic filing program will walk taxpayers through a question and answer format and help them claim the tax credits and deductions for which they are eligible.
• Free tax preparation sites EITC-eligible taxpayers can seek free tax preparation nationwide at more than 12,000 volunteer individual tax assistance sites. To locate a site, taxpayers may check a nationwide free tax preparation site list available at http://www.IRS.gov. They can also call the community’s 211 or 311 number for local services or call the IRS at 800-906-9887.
• IRS Taxpayer Assistance Centers EITC-eligible taxpayers can seek free assistance in 400 IRS locations across the country. Locations are online at www.irs.gov.
On Saturday, Jan. 29, and Saturday, Feb. 5, the IRS will open selected offices to provide special assistance to EITC eligible taxpayers. In addition, a number of community partners will also open their doors. Locations nationwide are listed on www.IRS.gov.
More information and the details of eligibility rules are available at www.irs.gov/eitc.
EITC – Don’t Overlook It
The Earned Income Tax Credit is a financial boost for workers earning $48,362 or less a year. Four of five eligible taxpayers filed for and received their EITC last year. The IRS wants you to get what you earned also, if you are eligible.
Here are the top 10 things the IRS wants you to know about this valuable credit, which has been making the lives of working people a little easier for 36 years.
1. As your financial, marital or parental situations change from year to year, you should review the EITC eligibility rules to determine whether you qualify. Just because you didn’t qualify last year, doesn’t mean you won’t this year.
2. If you qualify, the credit could be worth up to $5,666. EITC not only reduces the federal tax you owe, but could result in a refund. The amount of your EITC is based on your earned income and whether or not there are qualifying children in your household. The average credit was around $2,100 last year.
3. If you eligible for EITC, you must file a federal income tax return and specifically claim the credit – even if you are not otherwise required to file. Remember to include Schedule EIC, Earned Income Credit when you file your Form 1040 or, if you file Form 1040A, use and retain the EIC worksheet.
4. You do not qualify for EITC if your filing status is Married Filing Separately.
5. You must have a valid Social Security Number. You, your spouse – if filing a joint return – and any qualifying child listed on Schedule EIC must have a valid SSN issued by the Social Security Administration.
6. You must have earned income. You have earned income if you work for someone who pays you wages, you are self-employed, you have income from farming, or – in some cases – you receive disability income.
7. Married couples and single people without children may qualify. If you do not have qualifying children, you must also meet the age and residency requirements as well as dependency rules.
8. Special rules apply to members of the U.S. Armed Forces in combat zones. Members of the military can elect to include their nontaxable combat pay in earned income for the EITC. If you make this election, the combat pay remains nontaxable.
9. It’s easy to determine whether you qualify. The EITC Assistant, an interactive tool available on the IRS website, removes the guesswork from eligibility rules. Just answer a few simple questions to find out if you qualify and estimate the amount of your EITC.
10. Free help is available at Volunteer Income Tax Assistance sites and IRS Taxpayer Assistance Centers to help you prepare and claim your EITC. If you are preparing your taxes electronically, the software program you use will figure the credit for you. To find a VITA site or TAC near you, visit http://www.irs.gov.
For more information about the EITC, see IRS Publication 596, Earned Income Credit. This publication – available in both English and Spanish – can be downloaded from the IRS website or ordered by calling 800-TAX-FORM (800-829-3676).
Here are the top 10 things the IRS wants you to know about this valuable credit, which has been making the lives of working people a little easier for 36 years.
1. As your financial, marital or parental situations change from year to year, you should review the EITC eligibility rules to determine whether you qualify. Just because you didn’t qualify last year, doesn’t mean you won’t this year.
2. If you qualify, the credit could be worth up to $5,666. EITC not only reduces the federal tax you owe, but could result in a refund. The amount of your EITC is based on your earned income and whether or not there are qualifying children in your household. The average credit was around $2,100 last year.
3. If you eligible for EITC, you must file a federal income tax return and specifically claim the credit – even if you are not otherwise required to file. Remember to include Schedule EIC, Earned Income Credit when you file your Form 1040 or, if you file Form 1040A, use and retain the EIC worksheet.
4. You do not qualify for EITC if your filing status is Married Filing Separately.
5. You must have a valid Social Security Number. You, your spouse – if filing a joint return – and any qualifying child listed on Schedule EIC must have a valid SSN issued by the Social Security Administration.
6. You must have earned income. You have earned income if you work for someone who pays you wages, you are self-employed, you have income from farming, or – in some cases – you receive disability income.
7. Married couples and single people without children may qualify. If you do not have qualifying children, you must also meet the age and residency requirements as well as dependency rules.
8. Special rules apply to members of the U.S. Armed Forces in combat zones. Members of the military can elect to include their nontaxable combat pay in earned income for the EITC. If you make this election, the combat pay remains nontaxable.
9. It’s easy to determine whether you qualify. The EITC Assistant, an interactive tool available on the IRS website, removes the guesswork from eligibility rules. Just answer a few simple questions to find out if you qualify and estimate the amount of your EITC.
10. Free help is available at Volunteer Income Tax Assistance sites and IRS Taxpayer Assistance Centers to help you prepare and claim your EITC. If you are preparing your taxes electronically, the software program you use will figure the credit for you. To find a VITA site or TAC near you, visit http://www.irs.gov.
For more information about the EITC, see IRS Publication 596, Earned Income Credit. This publication – available in both English and Spanish – can be downloaded from the IRS website or ordered by calling 800-TAX-FORM (800-829-3676).
New Rules Smooth Way For Tax Informants
New rules will make it easier for people who blow the whistle on tax cheats to get a reward from the Internal Revenue Service. It remains to be seen when they can start to collect, though.
Treasury Department rules issued last week broaden the kinds of claims the agency accepts, smoothing the way for more people who want to collect. Tips are now good even if they just involve an improper tax refund or a tax credit.
Dean A. Zerbe, who represents whistleblowers, said tipsters are heartened by the development. "This is finally the cavalry coming in to help," he said. He believes the change shows senior IRS management is serious about removing any roadblocks to the program.
Zerbe previously helped write whistleblower law while Republican tax counsel to the Senate Finance Committee under Sen. Charles Grassley (R., Iowa). He is representing former UBS AG (UBS, UBSN.VX) banker Bradley Birkenfeld, now serving time in prison for aiding in tax evasion, in a whistleblower claim.
The special IRS office that pays tipsters is working on many claims but has yet to pay out any rewards, though it was formed back in 2006, under the Tax Relief and Health Care Act. It aims to let tipsters pocket between 15% and 30% of the taxes the IRS collects based on their information.
In a report to Congress in 2009--the most recent of its kind it has made--the office said it got 476 tips about 1,246 taxpayers in fiscal year 2008, each of which appear to meet the requirement that at least $2 million in taxes were evaded. The same year, the Treasury Inspector General for Tax Administration said there were big deficiencies in the handling of claims.
The office has hoped to attract many sophisticated informants, such as highly placed corporate executives who are more likely to know of the complex transactions used to evade very big tax payments. Cracking those cases means big money for the IRS in back payments and penalties.
Critics have said the office isn't doing enough to help people through what often turns into a long and frightening ordeal after they hand over information. They can lose jobs and friends, and feel isolated, even from the IRS.
David B. Blair, an attorney at Miller Chevalier in Washington, said his firm is monitoring developments at the IRS office closely. His colleagues are trying to make sure that everyone is educated on the law.
The dynamics of tax enforcement are changing as a result of the whistleblower office. A new group of firms has sprung up to handle whistleblower claims, and is soliciting employees and former employees of corporations that may have engaged in tax evasion or helped tax evaders.
Some tax advisers predict a kind of feeding frenzy could occur after the office pays out its first award. Any firm involved in winning the first award is likely to publicize the victory, drawing in other informants.
"It used to be the IRS and the taxpayer, and now we have this third party," says Blair. "That changes everything."
Copyright (c) 2010, Dow Jones.
Treasury Department rules issued last week broaden the kinds of claims the agency accepts, smoothing the way for more people who want to collect. Tips are now good even if they just involve an improper tax refund or a tax credit.
Dean A. Zerbe, who represents whistleblowers, said tipsters are heartened by the development. "This is finally the cavalry coming in to help," he said. He believes the change shows senior IRS management is serious about removing any roadblocks to the program.
Zerbe previously helped write whistleblower law while Republican tax counsel to the Senate Finance Committee under Sen. Charles Grassley (R., Iowa). He is representing former UBS AG (UBS, UBSN.VX) banker Bradley Birkenfeld, now serving time in prison for aiding in tax evasion, in a whistleblower claim.
The special IRS office that pays tipsters is working on many claims but has yet to pay out any rewards, though it was formed back in 2006, under the Tax Relief and Health Care Act. It aims to let tipsters pocket between 15% and 30% of the taxes the IRS collects based on their information.
In a report to Congress in 2009--the most recent of its kind it has made--the office said it got 476 tips about 1,246 taxpayers in fiscal year 2008, each of which appear to meet the requirement that at least $2 million in taxes were evaded. The same year, the Treasury Inspector General for Tax Administration said there were big deficiencies in the handling of claims.
The office has hoped to attract many sophisticated informants, such as highly placed corporate executives who are more likely to know of the complex transactions used to evade very big tax payments. Cracking those cases means big money for the IRS in back payments and penalties.
Critics have said the office isn't doing enough to help people through what often turns into a long and frightening ordeal after they hand over information. They can lose jobs and friends, and feel isolated, even from the IRS.
David B. Blair, an attorney at Miller Chevalier in Washington, said his firm is monitoring developments at the IRS office closely. His colleagues are trying to make sure that everyone is educated on the law.
The dynamics of tax enforcement are changing as a result of the whistleblower office. A new group of firms has sprung up to handle whistleblower claims, and is soliciting employees and former employees of corporations that may have engaged in tax evasion or helped tax evaders.
Some tax advisers predict a kind of feeding frenzy could occur after the office pays out its first award. Any firm involved in winning the first award is likely to publicize the victory, drawing in other informants.
"It used to be the IRS and the taxpayer, and now we have this third party," says Blair. "That changes everything."
Copyright (c) 2010, Dow Jones.
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