A Big Ouch

The English novelist and playwright Henry Fielding once wrote that "a rich man without charity is a rogue; and perhaps it would be no difficult matter to prove that he is also a fool." But sometimes you can be rich, charitable,and foolish, all at the same time. And that can make for some really expensive mistakes. 

Joseph Mohamed is a California real estate broker and appraiser who's made a fortune buying, selling, and developing real estate. In 1998, he and his wife Shirley set up a charitable remainder trust for the benefit of the Shriners Hospitals for Children, the Sacramento Food Bank & Family Services, and the Pacific Legal Foundation. Then, in 2003 and 2004, he donated six California properties to the trust: four adjacent street corners in Rio Linda, a 40-acre subdivided parcel south of Sacramento, and a shopping center in Elk Grove. 

Mohamed prepared his own taxes for those two years -- definitely not standard operating procedure for someone in his shoes. When it came time to fill out Form 8283, "Noncash Charitable Contributions", he skipped the instructions because "it seemed so clear that he didn't think he needed to." The form said the description of the donated property could be "completed by the taxpayer and/or appraiser." And Mohamed was an appraiser, right? Of course he knew what his own properties were worth. How hard could it really be? He attached statements to his returns explaining how he valued the two biggest parcels. Then he deducted $18.5 million for the gift, satisfied that he had done all he needed to substantiate his writeoff. 

It turns out, though, that the IRS wants a teensy bit more than just your say-so before handing out eighteen million in benefits. In fact, they have some pretty specific rules for deducting any gift of property worth more than $5,000. You need a "qualified" appraisal, made no sooner than 60 days before the gift and no later than the due date of the return reporting the gift itself. It has to be signed by a certified appraiser -- not the donor or the taxpayer claiming the deduction. And the appraisal has to include specific information about the property itself, your basis in the property, and how you acquired it in the first place. 

The IRS started auditing Mohamed's 2003 return in April, 2005. You can probably imagine how charitably inclined they were toward his self-appraisal. So Mohamed went out and got independent appraisals showing the properties were worth over $20 million -- two million more than he deducted. And the trust actually sold the 40 acres south of Sacramento for $23 million. You would think that would be enough. But you would be wrong. The IRS held firm, and the case wound up in Tax Court. 

Last month, the Court issued their 26-page opinion inMohamed v. Commissioner. They ruled that none of Mohamed's appraisals were "qualified" under Section 1.170A-13(c)(3)(i) and shot down his entire deduction. The Court confessed that "We recognize that this result is harsh -- complete denial of charitable deductions to a couple that did not overvalue, and may well have undervalued, their contributions -- all reported on forms that even to the Court's eyes seemed likely to mislead someone who didn't read the instructions." But, the Court continued, "the problems of misvalued property are so great that Congress was quite specific about what the charitably inclined have to do to defend their deductions, and we cannot in a single sympathetic case undermine those rules." 

So, ouch. Big, big ouch. (Insert expletive here.) Eighteenmillion bucks worth of deductions, lost because someone didn't dot the i's and cross the t's. Six million in actual tax savings, down the proverbial drain. We realize it sounds self-serving to tell you to come to us before you make a big financial move. But Joseph Mohamed's case emphasizes how important this really is. You may not have millions riding on doing it right. But are you really willing to risk tax benefits you truly deserve by doing it yourself?

K.R. Hoffman & Co., LLC, helps Entrepreneurs, Professionals and Select Individuals in taking control of their taxes, businesses and finances. Discover how we can help you with your tax and business challenges. For more information or to become a client, call me at (954) 591-8290 or drop me a note.

Corporate Entity Disregarded

If you want to claim the benefits of a corporation, you've got to actually use the corporation for business, not just pass funds through the corporate bank account. In one case the Tax Court disregarded the taxpayer's corporation, finding it to be a sham.

The corporation observed none of the formalities of a corporate entity such as shareholder meetings, issuing stock certificates, invoices were not made out in the corporate name, etc. The Tax Court attributed all the income to the taxpayer. There can be nontax consequences too. 

K.R. Hoffman & Co., LLC, helps Entrepreneurs, Professionals and Select Individuals in taking control of their taxes and understand their financial affairs. Discover how we can help you with your business and tax challenges. For more inforamtion or to become a client, call me at (954) 591-8290 or drop me a note.

Time to Start Planning for Next Year's Taxes

This year's tax deadline may have come and gone already but it's never to early to start planning for next year. With that in mind, here are eight things you can do now to make next April 15 easier.

1. Adjust your withholding. Why wait another year for a big refund? Now is a good time to review your withholding and make adjustments for next year, especially if you'd prefer more money in each paycheck this year. If you owed at tax time, perhaps you'd like next year's tax payment to be smaller.

Give us a call (954.591.8290) if you need assistance in adjusting your withholding.

2. Store your return in a safe place. Put your 2011 tax return and supporting documents somewhere secure so you'll know exactly where to find them if you receive an IRS notice and need to refer to your return. If it is easy to find, you can also use it as a helpful guide for next year's return.

3. Organize your recordkeeping. Establish a central location where everyone in your household can put tax-related records all year long. Anything from a shoebox to a file cabinet works. Just be consistent to avoid a scramble for misplaced mileage logs or charity receipts come tax time.

4. Review your paycheck. Make sure your employer is properly withholding and reporting retirement account contributions, health insurance payments, charitable payroll deductions and other items. These payroll adjustments can make a big difference on your bottom line. Fixing an error in your paycheck now gets you back on track before it becomes a huge hassle.

5. Consult a tax professional early. If you are planning to use a tax professional to help you strategize, plan and make financial decisions throughout the year, then contact us now. You'll have more time when you're not up against a deadline or anxious for your refund.

6. Prepare to itemize deductions. If your expenses typically fall just below the amount to make itemizing advantageous, a bit of planning to bundle deductions into 2012 may pay off. An early or extra mortgage payment, pre-deadline property tax payments, planned donations or strategically paid medical bills could equal some tax savings. If you need help with tax planning for 2012 give us a call. We can help you prepare an approach that works best for you.

7. Strategize tuition payments. The American Opportunity Tax Credit, which offsets higher education expenses, is set to expire after 2012. It may be beneficial to pay 2013 tuition in 2012 to take full advantage of this tax credit, up to $2,500, before it expires.

Each household's financial circumstances are different so it's important to fully consider your specific situation and goals before making large financial decisions.

Feel free to contact us (954.591.8290) any time you have questions or concerns. We can help you stay abreast of tax law changes throughout the year--not just at tax time.

I Received a Notice From the IRS - What Do I Do Now?

The first thing to do is to take a deep breath and relax. Then call me immediately at 954.591.8290 for a FREE no cost obligation consultation, or use my contact form.

You only have a short time to respond to the IRS before the situation escalates. Call us immediately so that we can put you at ease.

The financial press is abuzz with all the latest announcements from IRS about calls for increased enforcement of the nation's tax laws.

IRS recently announced they have reviewed or audited nearly a third of all tax returns that reported income of $10 million or more in the past year. One may recall in the September 2010 issue of For the Record, IRS introduced the Global High Wealth Industry Group in 2009 - a specialized team within IRS to pursue a more unified approach to audits of wealthy individuals. With that context in mind, this is a good time to review the most common types of letters and notices that IRS sends taxpayers.

It is important to note that very few audits actually require a face-to-face meeting with an IRS agent. There are many issues that IRS can examine or question on a taxpayer's return via correspondence. Often, having a good understanding of what positions in a return are being examined as well as responding in a timely fashion to IRS inquiries can result in a quick resolution of the audit or examination. Here's a brief overview of the more common types of notices:

• Notice CP 30 Estimated Tax Penalty: This form is used to notify a taxpayer all or part of an overpayment has been applied to an estimated tax payment penalty. It will also advise a taxpayer that all or some of required estimated tax payments were not timely. It is important to double check your records to determine whether the payments were made on time. It is recommended that payments be made through the electronic deposit program, or alternatively, mailed in via certified mail.

• Notice CP 2000 Notice of Proposed Adjustment for Underpayment/Overpayment (aka the Matching Notice): Receipt of this notice is fairly common and is mainly due to the increased Form 1099 e-filing requirements for financial institutions. The notice will typically list out proposed adjustments to a tax return and indicate the total increase in tax based on the changes. Although it may look like a demand for payment, it is not really a final determination of changes to a tax return. IRS uses this notice to request additional documentation from the taxpayer to verify the income, credits and deductions reported on your tax return because they're different from the information received from other sources. This letter often includes a detailed description of the adjustments and the basis for IRS' position, which is presented in an Explanation of Items (Form 886-A). A typical Form 886-A will contain the issue, the facts, the IRS' legal position and the IRS' understanding of the taxpayer's position. Good recordkeeping is of the utmost importance when preparing a response to this type of notice. If the taxpayer can substantiate the rationale for the position taken, as well as provide adequate third-party documentation for the amounts in question, the taxpayer has a greater likelihood of obtaining a speedy and favorable resolution.

• Letter 525 General 30 Day Letter: Per IRS: "This letter accompanies a report giving you a computation of the proposed adjustments to your tax return. It informs you of the courses of action to take if you do not agree with the proposed adjustments." Basically, the letter outlines what to do if a taxpayer wants to appeal the findings within IRS. The taxpayer should submit a request for appeal/protest to the office/individual that sent the letter. The protest should be filed within 30 days from the date of the letter in order to appeal the proposed adjustments with the Office of Appeals.

• Letter 531 Notice of Deficiency: This is the letter advising a taxpayer of their last chance to appeal. Per IRS: "The Internal Revenue Code authorizes the Commissioner to send this notice. The letter explains how to dispute the adjustments in the notice of deficiency if you do not agree. To dispute the adjustments without payment, you file a petition with the Tax Court within 90 days from the notice date." If a taxpayer neglects to address this letter, the collection process can officially begin.

• CP 504 IRS Intent to Levy: This is a final notice of a balance that is due on the taxpayer's account. This is usually the fourth notice that is sent, and will inform the taxpayer that a levy will be issued against their state tax refund. It may also include details stating that IRS plans to search for other assets on which a levy can be placed. Additionally, a Federal Tax Lien may also be filed if payment is not made at once.

This article can only provide a sample of the more common types of IRS notices. It cannot be overemphasized that responding timely to IRS is critically important. IRS has many tools at their disposal that can quickly escalate the severity of the penalties that can be imposed for willful neglect or noncompliance. However, it is important to note that many IRS notices, especially matching and late payment notices, are erroneous or have a simple explanation.

K.R. Hoffman & Co., LLC, counsels Entrepreneurs, Professionals and Select Individuals in taking control of their taxes, and businesses. Discover how we can help you overcome your tax and business challenges. For more information or to become a client, call Kenneth Hoffman at (954) 591-8290 Monday - Friday from 8:30 a.m. to 1:00 p.m. for a no cost consultation, or drop me a note.

I truly value your business and I appreciate your referrals. Refer your family, friends, acquaintances, and business colleagues to KR Hoffman & Co., LLC. If your referral retains our services, we will send you a $25 gift card and your referral will receive a $25 discount on their first invoice.

Follow us on Twitter at @TaxReturnCoach, and let us know how we're doing.

Something to Scream About

It's one of the most recognizable images in all of art. It's Norwegian artist Edvard Munch's iconic vision The Scream: an agonized figure --little more than a garbed skull and hands -- set against a background of blood-colored sky. And last month, it sold for a record-setting price. But could it have been inspired, at least in part, by his tax return?

Munch grew up in Oslo, son of a dour priest. At 16, he enrolled in college to become an engineer. He did well, but he quickly dropped out, disappointing his father, to study painting, which he saw as an attempt "to explain life and its meaning" to himself. At 18, he enrolled at the Royal School of Art and Design of Christiana, where he began painting portraits. His personal style addressed psychological themes and incorporated elements of naturalism, impressionism, and symbolism. He wound up studying in Paris and exhibiting in Berlin before painting the first of four versions of The Scream in 1893.

In 1908, Munch suffered a brief breakdown, followed by a recovery. That recovery brightened Munch's art as well as his life, as his later work becoming more colorful and less pessimistic. He finally gained the public approval he had sought for so long; he was made a Knight of the Royal Order of St. Olav; and he hosted his first American exhibit. Munch spent the last years of his life painting quietly and alone on a farm just outside Oslo. Today, he appears on Norway's 1,000 kroner note, set against a background inspired by his work.

We remember Munch now for his art, not his life. But that life included some frustrating run-ins with the tax man. Apparently, Munch wasn't any happier keeping timely and accurate records than the rest of us. Here's part of a letter that his biographer, Sue Prideaux, quotes him as writing, in her book Edvard Munch: Behind the Scream:

"This tax problem has made a bookkeeper of me too. I'm really not supposed to paint, I guess. Instead, I'm supposed to sit here and scribble figures in a book. If the figures don't balance I'll be put in prison. I don't care about money. All I want to do with the limited time I have left is to use it to paint a few pictures in peace and quiet. By now, I've learned a good deal about painting and ought to be able to contribute my best. The country might benefit from giving me time to paint. But does anyone care?"

Even without that tortured face in The Scream, most of us can still probably relate to his frustration!

Last month, Sotheby's auction house in New York sold a pastel-on-board version of The Scream that Munch painted in 1895 for $119.9 million -- a new record for art sold at auction. The seller was Norwegian billionaire Petter Olsen; the buyer remains unknown. If the seller had been American, there could have been quite a tax to pay. "Capital gains" from the sale of appreciated property held more than 12 months are ordinarily capped at 15%. (Republican presidential candidate Mitt Romney has proposed eliminating tax on capital gains for taxpayers earning under $200,000; while President Obama has proposed raising them to 20% for taxpayers earning over $250,000.) But paintings like The Scream are classed as "collectibles" and subject to a top tax of 28%. (You would be disappointed if we didn't say that's enough to make a collector scream!)

Are you holding precious artwork or antiques that are just taking up space in your house? Call us before you call the auctioneer. We'll make sure you keep as much of your record-setting price as possible. And remember, we're here for your family, friends, and colleagues, too!

K.R. Hoffman & Co., LLC, helps individuals and businesses take control of their taxes. Discover how we can help you with your business and tax challenges; call me at (954) 591-8290 or drop me a note.

Minister Housing Allowance

Ministers must qualify to exclude a housing allowance from taxable income. Under Code Section 107 of the Internal Revenue Code, a minister who satisfies all conditions contained in Section 107 may exclude from taxable income the qualifying amount of housing allowance. While many ministers are familiar with the concept, they frequently forget the detailed terms and conditions associated with this benefit.

Only qualified ministers may receive housing allowance. The IRS reserves this benefit for ordained, licensed, or commissioned ministers of the gospel who received their credentials from a church. Generally, specialized ministerial licenses do not qualify for a housing allowance.

In addition, the minister must be performing the duties of a minister during his work time. The Internal Revenue Regulations generally define the duties of a minister. The duties of a minister employed by a church generally include leading a worship service, performing sacerdotal functions, and managing the church or some significant segment of the church. A different test applies when the minister works outside the church.

Few churches use the term sacerdotal to describe a minister’s duties. The term sacerdotal originally arose within the Roman Catholic faith to describe those duties performed by the priests. Today, most churches define sacerdotal to include those duties normally expected of a minister by that church. Certainly, sacerdotal duties include performing weddings and funerals. But it also includes prayer, Bible study, preaching, teaching, counseling, leading church services, visiting the sick and infirm, and spreading the gospel through various means and media.

Once the individual is duly qualified as a minister and is performing ministerial duties, then the mechanical parts of the housing allowance must be performed. First, out of the minister’s total compensation, the church is responsible for designating in writing an amount as a housing allowance. This amount can range up to 100 percent of the minister’s compensation. The board or compensation committee should annually pass a resolution setting a fixed dollar amount of each minister’s housing allowance. The board or compensation committee may adjust the housing allowance during the year, but the adjustment will only apply prospectively. If the church provides a parsonage for the minister, the church is responsible for setting the fair rental value of the parsonage as furnished, plus utilities, and providing that information to the minister.

Second, the minister must track all cash expenses related to owning, occupying, or maintaining his primary residence. The minister will need to retain receipts should the IRS question his housing allowance. We urge all minsiters and clergy to keep a separate checkbook to keep track of their housing allowance and expenses.

Finally, the minister must determine the fair rental value of his home as furnished, plus utilities. The minister should not use a real estate professional associated with the church where he is serving.

The minister may exclude from taxable income the lowest of the amount designated by the church, the amount spent by the minister owning, occupying, and/or maintaining his primary home, or the fair rental value of the home as furnished, plus utilities.

As a side note, the housing allowance is taxable for self-employment taxes unless the minister has elected out of Social Security.

If you have any questions about this topic, tax law changes, have questions about the IRS and your church, or want to become a client, please call us at 954-591-8290 or use our Contact form.

Churches - Unrelated Business Income

A church must make quarterly estimated tax payments if it expects an unrelated business income tax liability for the year to be $500 or more.

Use IRS Form 990-W to figure your estimated taxes. Quarterly estimated tax payments of one-fourth of the total tax liability are due by April 15, June 15, September 15, and December 15, 2012, for churches on a calendar year basis.

If you need assistance in completing Form 990-W, have any questions about this topic, tax law changes, have questions about the IRS and your church, or want to become a client, please call us at 954-591-8290 or use our Contact form.

Report Card Time

Memorial Day has come and gone, and the school year is quickly winding down, if it isn't already over. Kids are getting excited for summer vacay, and there's just one hurdle left -- the dreaded report card. (If your kids are getting nervous and antsy around mail time, you might want to pay attention!)

 Kids in school aren't the only ones who have to sweat report-card time. That's right, the IRS gets a report-card time, too. In fact, they get two. By law, National Taxpayer Advocate Nina Olson has to submit two reports to Congress each year: the "Objectives Report," which outlines goals and activities planned for the coming year, and the "Annual Report," which summarizes the 20 most serious problems encountered by taxpayers, recommendations for solving those problems, and other IRS efforts to improve "customer" service and reduce taxpayer burden.

 And how do you think our friends at the IRS are doing? Well, this year's Annual Report listed twenty-two problems, not 20. Their biggest conclusion is that the IRS is simply "not adequately funded to serve taxpayers and collect taxes." It identifies "the combination of the IRS's expanding workload and declining resources as the most serious problem facing taxpayers."

 Granted, the IRS faces an especially tough challenge. "There were approximately 4,430 changes to the tax code from 2001 through 2010, an average of more than one a day, including an estimated 579 changes in 2010 alone. The IRS must explain each new provision to taxpayers, write computer code so it can process returns affected by the provision, and train its auditors to identify improper claims."

 And there were more specific problems, too. The IRS has to rely on computers to do most of their work, and computers don't always get things right. The IRS adjusts about 15 million returns per year -- but treats only 10% of those as "audits," so taxpayers don't always get traditional audit protections. And sometimes the IRS is just too busy to respond: they answer just 70% of taxpayer phone calls, and just 53% of written correspondence gets answered in 45 days. It's hard to ace your report card when you're missing that much of your homework!

 What can the IRS do about their report card? Well, they can't just make up their missing credit in summer school. But the Taxpayer Advocate does have two main recommendations. First, she urges Congress to "develop new budget procedures designed to fund the IRS at a level that will enable it to meet taxpayer needs and maximize tax compliance." And second, she suggests codifying a "Taxpayer Bill of Rights" to clearly outline and explain taxpayer protections and and responsibilities.

 Fortunately, the news isn't all bad -- the IRS has joined the social media revolution! There's a smartphone app to help track your refund, a YouTube channel with helpful videos in English, American Sign Language, and various foreign languages, and podcasts you can download from the iTunes store. You can even follow them on Facebook and Twitter!

 Our "Plan A," of course, is to give you the concepts and strategies to help you pay the least amount of tax legally possible -- then help prepare returns that avoid IRS scrutiny. But just in case that scrutiny finds you, we're always ready with "Plan B" -- to help deal with the IRS on your behalf, and make sure you don't become another Annual Report statistic!

 If you have any questions about this topic, tax law changes, have questions about your business, or want to become a client, please call us at 954-591-8290 or use our Contact form.

It Pays To Hire A Tax Professional

In Bilal Salahuddin et ux. (T.C. Memo. 2012-141) the taxpayers owed outstanding Federal income tax liabilities for tax years 2004, 2005, and 2006.

The IRS issued them a levy notice to collect those unpaid liabilities. The taxpayers requested a collection due process (CDP) hearing before IRS Appeals pursuant to Sec. 6330, during which they sought an installment agreement. They submitted a Form 433-A, Collection Information Statement for Wage Earners and Self-Employed Individuals, without supporting documentation. The taxpayer did not use a tax professional to assist them.

An Appeals team manager informed the taxpayers that the IRS's Philadelphia Service Center had calculated their acceptable amount for an installment agreement to be $900 to $1,000 monthly and advised them that their prior submission would be "sufficient". Without further communication with the taxpayers, the Appeals settlement officer closed the CDP hearing and sustained the proposed levy on the ground that the taxpayers had not provided sufficient financial information and that their ability to pay exceeded the proposed $900 to $1,000 per month.

The taxpayers filed a timely petition for review of that determination with the Tax Court, and the IRS moved for summary judgment. The Court held there was a genuine issue of material fact as to whether Appeals, having advised the taxpayers that their submission was "sufficient", abused its discretion in terminating the CDP hearing and rejecting their proposal for an installment agreement, rather than soliciting a satisfactory substitute proposal. The Court denied the IRS's motion for summary judgment.

If the taxpayers had consulted with a tax professional, the taxpayers may have saved themselves a lot of money, time and aggravation. A qualified tax professional would have ensured that the 433-A was properly completed and with the required documentation.  When the IRS said they wanted $900-$1000 per month, a tax professional could have invoked the "One Year Rule" as outlined in the Internal Revenue Manual, to force the IRS to accept payments the taxpayers could have afforded.  KR Hoffman & Co., LLC is that tax professional. Call us at 954.591-8290 to see how we can assist you.

K.R. Hoffman & Co., LLC, counsels Entrepreneurs, Professionals and Select Individuals in taking control of their taxes, and businesses. Discover how we can help you overcome your tax and business challenges. For more information or to become a client, call me at (954) 591-8290 TODAY or drop me a note.

Proper Recordkeeping and Tax Deductions Go Hand in Hand

Recordkeeping is critical to securing a deduction. In Gabriel S. Garcia et ux. (T.C. Memo. 2012-139) the taxpayer operated two businesses that provided services to other entities.

The taxpayer paid various workers wages or contract labor expenses. Some of the payments were made by check and some of the payments were in cash. The taxpayer did not maintain complete books and records of the wages or contract labor payments he made during 2007 or 2008. Some, but not all, of the payments were reported to the IRS and to the workers as wages, and some were reported as nonemployee compensation.

Some, but not all, of the workers reported the income received from the taxpayer on their tax returns. Some of the workers provided to the taxpayer incorrect or illegible Social Security numbers. For 2007, the taxpayers reported on their tax return $356,581 as wage and contract labor expenses. The taxpayer was able to substantiate wage and contract labor expenses of only $230,291.

The IRS allowed a deduction $230,291 for 2007. For 2008, the taxpayers reported on their tax return $283,613 as wage and contract labor expenses but could substantiate expenses of only $157,190. The IRS allowed a deduction $157,190 for 2008.

The taxpayers' returns were prepared by his brother, who was not an accountant. The returns claimed erroneous, overstated or unsubstantiated deductions other than the ones for wages or contract labor. While the taxpayer testified he paid the amounts claimed, his testimony was not corroborated by any witnesses and he could not explain how he derived the amounts deducted on his tax returns in the absence of records, and his brother, who prepared the returns, did not testify.

The Court noted the taxpayer did not have any time records or other evidence from which we could estimate the amounts that he paid without substantiating documents. He did not identify any sources for cash payments to workers. The Court noted that it could have made an estimate of the expenses, but noted it could do so only when the taxpayer provides evidence sufficient to establish a rational basis upon which the estimate can be made. Without such evidence, the Court would not make an estimate. It allowed no more than the IRS allowed.

If you have any questions about this topic, tax law changes, have questions about your business, or want to become a client, please call us at 954-591-8290 or use our Contact form.