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federal income tax

Plan for the return of some tax break phase-outs

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Are you familiar with PEP and Pease? Though they sound like a pop duo, the terms refer to tax rules known as phase-outs that can impact how much federal income tax you owe.

Phase-outs are reductions in the amount of deductions, credits, and other breaks you can claim on your tax return. Though generally based on adjusted gross income, phase-outs vary in rate, amount, and how they’re calculated.

Here’s an overview of PEP and Pease, two tax breaks that are once again subject to phase-out this year.

* Personal exemption phase-out (PEP). If you’re married filing jointly for 2013 and your income exceeds $300,000, the PEP will reduce the amount you claim for yourself, your spouse, and your dependents.

The personal exemption for 2013 is $3,900. But when PEP applies and your income increases, your deduction is reduced accordingly.

* Itemized deduction phase-out. You probably already know that some itemized deductions are limited. For instance, to claim a deduction for medical expenses, your out-of-pocket costs for this year have to exceed 10% of adjusted gross income (AGI). This threshold remains at 7.5% of AGI if you are 65 or older. Miscellaneous itemized deductions, such as unreimbursed employee business expenses, are limited to amounts over 2% of AGI.

* There’s also an additional phase-out called the Pease provision that limits the amount of total itemized deductions – after the above reductions. For 2013, Pease kicks in when your income exceeds $300,000 ($150,000 if you’re married filing separately).

Other phase-outs limit the amount and deductibility of IRA contributions; the education, adoption, and childcare credits; and the alternative minimum tax exemption. Please call for a review of how phase-outs affect you and what you might be able to do to avoid them.

Gilliland & Associates, PC is a full-service CPA firm specializing in tax planning for individuals and businesses in the Northern Virginia area. We are based in Falls Church, VA and also service clients in the McLean and Tysons Corner, VA. Gilliland & Associates specializes known for our superior knowledge and aggressive interpretation and application of tax laws, we help you keep more of your earnings by finding you the lowest possible tax on your business or personal tax return. You can connect with us on Google+ <https://plus.google.com/108764776146415485651/posts> , LinkedIn <http://www.linkedin.com/in/gillilandcpa> , Facebook <https://www.facebook.com/gillilandcpa> , and Twitter <https://twitter.com/dnggcpa>

 

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Know the tax consequences of borrowing from your 401(k) plan

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When you borrow from your 401(k), you become both a borrower and a lender. Whether that’s a good idea depends on your personal financial situation – and in the process of making the decision about lending money to yourself, you may have questions regarding the tax consequences.

For instance, though you probably know the initial borrowing has no federal income tax effect, you might be wondering whether the interest you pay will be deductible. In general, the answer is no. That’s true even when you use 401(k) loan proceeds for your home.

Ordinary loan repayments are not taxable events either. That is, you don’t have to pick up the interest you repay into your account as taxable income. And, though you’re increasing your 401(k) account with the principal portion of each payment, that amount is not considered a contribution. You can still make pre-tax contributions up to the annual limit ($17,500 for a traditional 401(k) during 2013, plus an additional $5,500 when you’re age 50 or older).

What if you default on the 401(k) loan? The balance of your loan is considered a distribution to you, and you’ll have to report it as ordinary income on your federal tax return. In addition, when you’re under age 59½, a 10% early-withdrawal penalty typically applies.

Being both a 401(k) borrower and a lender can lead to tax surprises. Give us a call to make sure you have the whole story before you arrange a 401(k) loan.

Gilliland & Associates, PC is a full-service CPA firm specializing in tax planning for individuals and businesses in the Northern Virginia area. We are based in Falls Church, VA and also service clients in the McLean and Tysons Corner, VA. Gilliland & Associates specializes known for our superior knowledge and aggressive interpretation and application of tax laws, we help you keep more of your earnings by finding you the lowest possible tax on your business or personal tax return. You can connect with us on Google+ , LinkedIn , Facebook, and Twitter.

 

 

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RMDs require careful planning

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After all the advice you’ve received about saving for retirement, taking money out of your traditional IRAs and other qualified retirement plans may feel strange. Yet once you reach age 70½, the required minimum distribution (RMD) rules say you have to do just that.

Under these rules, you must withdraw at least a minimum amount from your retirement plans each year. Since the withdrawals are considered ordinary income, planning in advance can help you prepare for the impact on your tax return.

Here are two suggestions.

* Make a list of your accounts. The rules require an RMD calculation for each plan. With traditional IRAs, including SEP and SIMPLE plans, you can take the total distribution from one or more accounts, in any amount you choose. You can also take more than the minimum.

However, withdrawals from different types of retirement plans can’t be combined. Say for instance, you have one 401(k) and one IRA. You have to figure the RMD for each and take separate distributions.

Why is that important? Failing to take distributions, or taking less than is required, could result in a penalty of 50% of the shortfall.

* Plan your required beginning date. In general, you’re required to withdraw RMDs by December 31, starting in the year you turn 70½. The rules provide one exception: You have the option of postponing your first withdrawal until April 1 of the following year.

Delaying income can be a sound tax move. But because you’ll still have to take your second distribution by December 31, you’ll receive two distributions in the same year, which can increase your taxes.

To discuss these and other RMD rules, give us a call. We can help you create a sound distribution plan.

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Give to cut taxes

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If you are in a position to give, making annual gifts can be an excellent strategy for reducing both your estate and income tax liability. Doing your gift-giving at midyear rather than late in the year is especially smart if you are giving income-producing property. You will then remove more income from your 2013 tax return.

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Don’t miss out on the “saver’s credit”

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If you’re not sure what the “saver’s credit” is, you’re not alone. Members of the Senate Finance Committee believe many people who are eligible to claim the credit are unaware of its existence.

Here’s what you need to know:

*The saver’s credit, also called the “retirement savings contributions credit,” is a tax break designed to encourage you to make contributions to your traditional and Roth IRAs and certain other qualified retirement plans — including your 401(k).

*You apply the credit directly to your federal income tax liability, including the alternative minimum tax. The credit is nonrefundable, meaning you can use it to reduce your tax liability to zero, but no lower.

*The maximum credit is $1,000 ($2,000 if you’re married filing a joint return).

*You’re eligible if you’re not a full-time student or a dependent, are over age 18, and your 2012 adjusted gross income is less than the phase-out amount of $28,750 ($57,500 for married filing jointly). For 2013, those phase-out amounts increase to $29,500 for singles and $59,000 for joint filers.

Here’s why it’s a good deal: If you’re eligible, you can take the credit and still deduct your traditional IRA contribution, which gives you the opportunity for double savings.

Additional rules might apply. For instance, the amount of the credit may be reduced by certain distributions from your retirement plans. To learn how you can obtain the maximum benefit, please give us a call.

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Capital gains and losses: New twists for 2012

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The end of the year is the traditional time for securities investors to “harvest” capital losses for federal income tax purposes. But there’s an added wrinkle in 2012: Due to pending tax law changes, you might try to reap more capital gains than losses. Thus, the usual strategy of harvesting losses could be turned upside down.

Here’s a recap of the basic rules. The capital gains and capital losses you realize during the year are “netted” under complex rules when you file your tax return. A gain or loss is treated as being long-term if you’ve held the securities for more than one year. For 2012, net long-term capital gain is taxed at a maximum tax rate of 15% (0% for investors in the regular 10% and 15% tax brackets).

If you’re showing a net capital gain on paper as year-end approaches, any capital losses you realize will reduce the amount of the taxable gain or offset it completely. An excess loss can then offset up to $3,000 of highly taxed ordinary income before any remainder is carried over to next year. However, the usual strategy of harvesting losses is complicated this year by three key tax law changes scheduled for 2013.

1. The maximum tax rate for net long-term capital gain will increase to 20% (10% for investors in the lower tax brackets).

2. Ordinary tax rates are going up. For example, the top rates of 33% and 35% will increase to 36% and 39.6%, respectively.

3. A special 3.8% Medicare surtax will apply to the lesser of net investment income for the year or the amount by which modified adjusted gross income (MAGI) exceeds $250,000 ($200,000 for single filers).

Barring any late legislation by Congress, investors may be inclined to harvest capital gains instead of losses at year-end. As a result, you can benefit from the favorable tax rates in effect for 2012. If you’ve already realized short-term gains in 2012, you might want to realize short-term losses to offset those gains. But don’t use short-term losses to offset long-term gains, if you can help it, because long-term gains are taxed at a maximum rate of only 15% in 2012.

Other considerations may come into play. The best approach is to do what’s best for your situation. Contact us for assistance in reviewing your options.

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Who qualifies as your dependent? Here’s the tax answer

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Who depends on you? When the people counting on you for support are qualifying children or relatives, you may be eligible for a dependency exemption of $3,650 on your 2010 federal income tax return ($3,700 on 2011 returns).

Not sure who meets the definition? Consider these facts.

* Dependents cannot have dependents. The “dependent taxpayer” test prevents you from claiming a dependent when someone else claims you on their return. Put another way, you can only claim a dependent if you yourself are not one.

* The tax code gives a definition of a qualifying child. Generally, a qualifying child must not have filed a joint return. In addition, the child must be younger than you are.

* Divorced or separated parents need a signed release to claim an exemption. If you’re a noncustodial parent who wants to claim a dependency deduction for your child in 2010, you must attach Form 8332 to your federal income tax return. As a general rule, copies of divorce decrees or separation agreements are no longer acceptable.

* Qualifying relatives can include family members who do not live with you. Do you support a parent in a nursing home or another state? You may be able to claim a dependency exemption as long as your loved one’s gross income is less than $3,650 for 2010 ($3,700 for 2011), and you provide more than half the total support.

If other family members pitch in to help but no one individually furnishes more than half of your loved one’s total support, you can still benefit. A “Multiple Support Declaration” (Form 2120) lets you decide who claims the exemption.

Contact us if you need more information.

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Tax rates over the years

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Tax rates are scheduled to go higher next year, with the top rate once again hitting 39.6%. For a look at tax rates over the years, here’s a partial history of our federal income tax rates for individuals since the income tax was created in 1913.

Federal Income Tax Rates Since 1913

 Year              Lowest bracket    Top bracket

1913-1915               1%                   7% 

1918                         6%                  73% 

1923                         3%                  56% 

1925-1928               1.5%                25% 

1936-1939                4%                  79% 

1944-1945               23%                 94%

1964                        16%                 77% 

1971-1981               14%                 70%

1982-1986               12%                 50% 

1988-1990               15%                 28% 

1993-2000               15%                39.6% 

2003-2010               10%                 35%

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