Q:

Subject: Increasing Gifting Limit to $12,000

Hello:

I saw your post on savingforcollege.com.   I was wondering if you could answer a question.

If I used my $55,000 contribution for a college 529 plan in 2005 (11,000 X5) for contributions to 2009, can I add an additional $4,000 to what I have already contributed to make up for the accelerated gifting to $60,000.  What would the procedure be?

Thank you very much for your time.

Rob

A:

That wasn’t me posting there; but someone who found that info on my website.

The response to your questions from Joe Hurley sounds right.

No you cannot, because as the law is currently written your 2006 contribution must be more than $12,000 to be eligible for the spreading election. A $4,000 contribution would not be enough. You could make $1,000 contributions in each of the next four years to stay within the new, higher annual exclusion.

Joe

Good luck.

Kerry Kerstetter

 

One of the themes I have long been covering has been the use of corporate structures by small businesses.  While the reasons have mainly been for the additional tax saving opportunities and personal protection from many business liabilities and lawsuits, another benefit that I have only occasionally mentioned is the lower profile a small corporation has for an IRS audit than there is when reporting all business income on 1040s. 

Reading this statement from the current IRS Commissioner on his performance in office, that point is very clear.  Specifically, the following statistics he mentioned for the fiscal year ended September 30th:

Total individual returns audited increased by over 20% to 1,216,000 from 1,008,000 in 2004.

Audits of individuals with incomes over $100,000 surpassed 221,000, the highest figure in 10 years, and well over double the 92,000 completed in fiscal year 2001.  The coverage rate in this category is still too low, but at 1.58% is double what it was four years ago.

Audits of small businesses organized as corporations turned up after years of decline.  17,867 were completed in 2005 against 7,294 a year earlier.

Audits of larger corporations – those with assets over $10 million – also increased, up 14% from a year ago to 10,878.  The coverage rate of 20% has rebounded significantly from that of 12% just two years ago.

The gist of this is that the IRS cross-hairs are definitely focused on 1040s with income over $100,000.  While that is a large enough figure to attract attention among all of the 1040s filed each year, that kind of income is a tiny drop in the bucket in the world of corporations, where IRS focus is on those with millions and billions of dollars in income.   

I wanted to check the percentage of corporate tax returns audited, but IRS statistics only go up to 2002.  I downloaded the 2002 corp Excel spreadsheet and it shows the total number of corporate income tax returns with assets under $10 million as 5,186,852.  Using the most recent number of audits of 17,867 gives an audit percentage of just 0.34%.  With the number of corporations most likely higher in recent years, that percentage would be even smaller.  Using the 1.58% audit coverage of 1040s with more than $100,000 of income, that works out to more than four and a half times more likely to be audited.   

Tax Analysts looks at the Commissioner’s report.

One other statistic from the Commissioner is a little hard to believe:

 Our toll-free tax law accuracy hit a high of 89%.

I suspect that, much like the political opinion polls being bandied about by the media, these stats were intentionally skewed. 

Capital Gains, Dividend Cuts Could Bump AMT Fix From Reconciliation

First Three IRS Contracts With Private Debt Collectors Expected in February

Feds Bust More Scamming Tax Pros:

Norfolk, Virginia tax preparer using phony deductions

Attorneys & CPAs using Phony Offshore Schemes

Bush’s Tax Non-Reform

This email exchange was from early August.

Q-1:

Subject: 2005-1040

Kerry,

I have doing some tax planning and have been trying to find out what amounts that the IRS will use for tax year 2005 for standard deductions and exceptions. The only place I could find what I was looking for was on your website, which I am a bit skeptical about. One reason for my skepticism is you show “Updated Tuesday February 01.” I doubt that the IRS would have known what those numbers would be last Feb. It shows the 10% bracket extended to $14,600 which was surprising, as I didn’t know it was indexed to inflation, and if it were would indicate an inflation rate of 4.3%. 

A-1:

The current update date showing up on that page is just the last date I made any modifications to that page.  My FrontPage program automatically inserts the date whenever I change anything.

The info on that page was actually posted on 9/23/04, as mentioned in this blog post.

Thousands of people have linked to my page with the 2005 rates since I posted it on 9/24/04 and you are the very first to express any doubt as to its accuracy.

You can see the same info on the 2005 1040-ES form.

What may have you confused is the fact that when things like the standard deduction are adjusted for inflation, that can only be done in increments of $50, which does often give us a little more bump up than the actual change in the CPI.

I hope this clears up your confusion.

Kerry Kerstetter

Q-2:

Kerry,

 

Thank you for your prompt response. My skepticism was in part because I tried to Google that information up and hit a dead end everywhere but for your website. I thought if this information were valid that I would have likely also found it somewhere else.

 

The reason for my wanting to know this is for tax planning purposes. A couple of years ago I made what for me was a surprising discovery. Going through the 18-page worksheet to determine how much of my S/S was taxable was not difficult but I could not understand just what it was that they were doing to me. In order to help comprehend what was going on I put together a spreadsheet increasing taxable income (line 3) $1,000 per column and the results was surprising.

 

As an accountant you may be aware of what follows, if so I have wasted my time but if not I think you would be interested in this.

 

I knew that when they started taxing S/S that you are taxed on $1.50 for every extra $1.00 of income. What I did not realize was that this also effectively caused a narrowing of the 10% bracket. Suppose the bracket is $14K wide and you start pay taxes on S/S after using $8K worth. You only have $4K of the 10% bracket left as the taxing S/S effectively narrows the bracket by $2K.

 

When S/S begins being taxed your effective marginal rate (EMR) is 15%, (10% of $1.50). Once you get to the 15% bracket, your EMR is 22.5% (15% of $1.50). If you reach the trip point where $1.85 is taxed for every $1.00 of income you EMR is 27.75% (15% of $1.85). After 85% of you S/S is taxed you go back to 15%.

 

I realize that knowing this is of no use to most people but I find myself in a unique situation where I think I can use this to my benefit or the benefit of my heirs. Instead of minimizing current taxes I am trying to optimize taxes for the longer term. As I receive a non-taxable disability benefit from the VA we have adequate income without paying any income taxes. I have about $500K in regular IRAs and as I am not yet required to take minimum distributions I think it is to my benefit to move regular IRA money to a Roth. I feel that if I don’t move those assets now it is likely to cause me or my heirs to pay more taxes later on. I feel that at a minimum I should move enough money to use up the 10% bracket. However I am less sure that I am on the right track doing what I am doing, which is to have a target income that just avoids the EMR of 22.5%.

 

I did read your letter opining that Roths will likely be taxed in the future and I fully realize that tax planning is often futile because of the fickle ways of Washington.

You certainly do a lot of number crunching to work with that nefarious penalty on “evil rich” SS recipients.  You are absolutely right that the effective marginal tax rates are frequently higher than those in the official IRS schedules because of the things triggered by AGI, such as credit and deduction phase-outs, as well as the taxability of SS.

Converting conventional IRAs to Roths would compound these ripple effects for the years in which you report the income on the conversion.  Whether the tax hit now will be worth it down the road is a bit of a guessing game.  However, I do still have serious doubts that our rulers will leave the tax free status of Roths intact for those they consider to be evil rich.  I hope I’m wrong; but you are already experiencing the effects of the exact same kind of  promise-breaking with taxes on your SS.

I hope you have set up a computerized worksheet for these calculations because this would be a lot of work by hand.
 
Good luck.

Kerry

Q-3:

Kerry,
I spent quite a bit of time laboring over this spreadsheet and now the number crunching is all done automatically. I imagine it would have been pretty easy for someone that is fluent in Excel but I am kind of a self-taught klutz so it was slow going for me. The first 18 lines mimic the 18-line worksheet in instructions for 1040. The added lines compute your EMR and the dollar amount of taxable income that triggers the change in EMRs. Anyone can use it by inputting the dollar amounts into those cells shown in red to reflect their personal situation.

A-3:

Thanks for sharing that Excel worksheet.  That is a very interesting approach to looking at the effective tax rate on your SS benefits.

I hope you’ve seen the 2006 tax rate schedules which I have posted on my website.

Kerry

 

Number Six – “Your future Social Security check depends on us landing high-paying jobs” – wouldn’t be so scary if we were ever allowed to drop out of the current Ponzi Scheme arrangement and set aside our own money for our retirement.

For the many people who appreciated the live version of Nickel Creek’s rendition of George Harrison’s classic TaxMan song that I posted a few months back, I have found the Mother Lode.

Being so far in the boonies, I’m not able to make it in person to many live concerts.  However, many artists are willing to have their performances taped and shared with fans for free.  For the past several months. I have been downloading concerts from the Live Music Archive and playing them through my computer and office surround sound system while I work. 

A few weeks ago, I noticed the search function, which I had previously thought was only for finding bands, and typed in “TaxMan.” It came up with 38 hits, many by groups I had never even heard of.  Over the past few days, I have finally been able to download all 38 to my main computer.

The cuts each range from a little over three minutes to almost 16 minutes in length.  Altogether, they total almost four and a half hours if you stack them up and play them back to back, which I am doing right now.

As you can see by the list below, there are several versions by the same groups.  However, that doesn’t mean they sound the same. The reason these groups allow their concerts to be taped and shared is the fact that most of them are of the jam-band ilk, where no two performances are done the same way.  They are the complete opposite from the more famous pop stars of today, who charge their fans huge sums of money to see them lip-synch to their studio recordings while dancing around the stage.  The jam-bands, most famously represented by the Grateful Dead, make each performance completely unique, and thus encourage their fans to capture them for posterity.

As with all of the concerts on the Live Music Archive, some give you a choice of formats to download, including MP3 with the smallest file size, while others only have the much larger SHN format, which music purists claim is of higher quality.  I haven’t noticed much difference in quality, so I choose the MP3 when given the chance.  SHN files can be played with the free WinAmp program.

The 38 songs that came up in the search are by:

String Cheese Incident – 13
Steve Kimock – 1
The Green Onions – 1
Moonshine Still – 4
Mutual Admiration Society – 12
Bockman’s Euphio – 3
Virginia Coalition – 1
Myoclonic Jerk – 1
Ruder Than You – 1
Go There  – 1 (Instrumental)

These music files are legal to download and use for your own personal non-commercial entertainment.