Estimated tax payments: The deadline for the first 2021 installment is coming up

April 15 is not only the deadline for filing your 2020 tax return, it’s also the deadline for the first quarterly estimated tax payment for 2021, if you’re required to make one.

You may have to make estimated tax payments if you receive interest, dividends, alimony, self-employment income, capital gains, prize money or other income. If you don’t pay enough tax during the year through withholding and estimated payments, you may be liable for a tax penalty on top of the tax that’s ultimately due.

Four due dates

Individuals must pay 25% of their “required annual payment” by April 15, June 15, September 15, and January 15 of the following year, to avoid an underpayment penalty. If one of those dates falls on a weekend or holiday, the payment is due on the next business day.

The required annual payment for most individuals is the lower of 90% of the tax shown on the current year’s return or 100% of the tax shown on the return for the previous year. However, if the adjusted gross income on your previous year’s return was more than $150,000 (more than $75,000 if you’re married filing separately), you must pay the lower of 90% of the tax shown on the current year’s return or 110% of the tax shown on the return for the previous year.

Most people who receive the bulk of their income in the form of wages satisfy these payment requirements through the tax withheld by their employers from their paychecks. Those who make estimated tax payments generally do so in four installments. After determining the required annual payment, they divide that number by four and make four equal payments by the due dates.

The annualized method

But you may be able to use the annualized income method to make smaller payments. This method is useful to people whose income flow isn’t uniform over the year, perhaps because they’re involved in a seasonal business.

If you fail to make the required payments, you may be subject to a penalty. However, the underpayment penalty doesn’t apply to you:

  • If the total tax shown on your return is less than $1,000 after subtracting withholding tax paid;
  • If you had no tax liability for the preceding year, you were a U.S. citizen or resident for that entire year, and that year was 12 months;
  • For the fourth (Jan. 15) installment, if you file your return by that January 31 and pay your tax in full; or
  • If you’re a farmer or fisherman and pay your entire estimated tax by January 15, or pay your entire estimated tax and file your tax return by March 1

In addition, the IRS may waive the penalty if the failure was due to casualty, disaster, or other unusual circumstances and it would be inequitable to impose it. The penalty may also be waived for reasonable cause during the first two years after you retire (after reaching age 62) or become disabled.

Stay on track

Contact us if you have questions about how to calculate estimated tax payments. We can help you stay on track so you aren’t liable for underpayment penalties.

Didn’t contribute to an IRA last year? There still may be time

If you’re getting ready to file your 2020 tax return, and your tax bill is higher than you’d like, there might still be an opportunity to lower it. If you qualify, you can make a deductible contribution to a traditional IRA right up until the April 15, 2021 filing date and benefit from the tax savings on your 2020 return.

Who is eligible?

You can make a deductible contribution to a traditional IRA if:

  • You (and your spouse) aren’t an active participant in an employer-sponsored retirement plan, or
  • You (or your spouse) are an active participant in an employer plan, but your modified adjusted gross income (AGI) doesn’t exceed certain levels that vary from year-to-year by filing status.

For 2020, if you’re a joint tax return filer and you are covered by an employer plan, your deductible IRA contribution phases out over $104,000 to $124,000 of modified AGI. If you’re single or a head of household, the phaseout range is $65,000 to $75,000 for 2020. For married filing separately, the phaseout range is $0 to $10,000. For 2020, if you’re not an active participant in an employer-sponsored retirement plan, but your spouse is, your deductible IRA contribution phases out with modified AGI of between $196,000 and $206,000.

Deductible IRA contributions reduce your current tax bill, and earnings within the IRA are tax deferred. However, every dollar you take out is taxed in full (and subject to a 10% penalty before age 59 1/2, unless one of several exceptions apply).

IRAs often are referred to as “traditional IRAs” to differentiate them from Roth IRAs. You also have until April 15 to make a Roth IRA contribution. But while contributions to a traditional IRA are deductible, contributions to a Roth IRA aren’t. However, withdrawals from a Roth IRA are tax-free as long as the account has been open at least five years and you’re age 59 1/2 or older. (There are also income limits to contribute to a Roth IRA.)

Here are two other IRA strategies that may help you save tax.

1. Turn a nondeductible Roth IRA contribution into a deductible IRA contribution. Did you make a Roth IRA contribution in 2020? That may help you in the future when you take tax-free payouts from the account. However, the contribution isn’t deductible. If you realize you need the deduction that a traditional IRA contribution provides, you can change your mind and turn a Roth IRA contribution into a traditional IRA contribution via the “recharacterization” mechanism. The traditional IRA deduction is then yours if you meet the requirements described above.

2. Make a deductible IRA contribution, even if you don’t work. In general, you can’t make a deductible traditional IRA contribution unless you have wages or other earned income. However, an exception applies if your spouse is the breadwinner and you are a homemaker. In this case, you may be able to take advantage of a spousal IRA.

What’s the contribution limit?

For 2020 if you’re eligible, you can make a deductible traditional IRA contribution of up to $6,000 ($7,000 if you’re 50 or over).

In addition, small business owners can set up and contribute to a Simplified Employee Pension (SEP) plan up until the due date for their returns, including extensions. For 2020, the maximum contribution you can make to a SEP is $57,000.

If you want more information about IRAs or SEPs, contact us or ask about it when we’re preparing your return. We can help you save the maximum tax-advantaged amount for retirement.

IRS Announces 2021 tax filing season begins on Feb. 12

The Internal Revenue Service announced that the nation’s tax season will start on Friday, February 12, 2021, when the tax agency begins accepting and processing 2020 individual tax returns.

There are so many changes to federal and state taxes and many more. We are working through those updates and changes and how they will apply on the tax forms, disclosures, and reconciliations while navigating different rules to process 2020 tax returns.

More information is available on the IRS webpage at https://www.irs.gov/newsroom/2021-tax-filing-season-begins-feb-12-irs-outlines-steps-to-speed-refunds-during-pandemic.

Reach out to us with any questions.

Happy 2021 Tax Filing!

Be aware of revised tax benefits for higher education

Attending college is one of the biggest investments that parents and students ever make. If you or your child (or grandchild) attends (or plans to attend) an institution of higher learning, you may be eligible for tax breaks to help foot the bill.

The Consolidated Appropriations Act, which was enacted recently, made some changes to the tax breaks. Here’s a rundown of what has changed.

Deductions vs. credits

Before the new law, there were tax breaks available for qualified education expenses including the Tuition and Fees Deduction, the Lifetime Learning Credit, and the American Opportunity Tax Credit.

Tax credits are generally better than tax deductions. The difference? A tax deduction reduces your taxable income while a tax credit reduces the amount of taxes you owe on a dollar-for-dollar basis.

First, let’s look at the deduction

For 2020, the Tuition and Fees Deduction could be up to $4,000 at lower income levels or up to $2,000 at middle income levels. If your 2020 modified adjusted gross income (MAGI) allows you to be eligible, you can claim the deduction whether you itemize or not. Here are the income thresholds:

  • For 2020, a taxpayer with a MAGI of up to $65,000 ($130,000 for married filing jointly) could deduct qualified expenses up to $4,000.
  • For 2020, a taxpayer with a MAGI between $65,001 and $80,000 ($130,001 and $160,000 for married filing jointly) could deduct up to $2,000.
  • For 2020, the allowable 2020 deduction was phased out and was zero if your MAGI was more than $80,000 ($160,000 for married filing jointly).

As you’ll see below, the Tuition and Fees Deduction is not available after the 2020 tax year.

Two credits aligned

Before the new law, an unfavorable income phase-out rule applied to the Lifetime Learning Credit, which can be worth up to $2,000 per tax return annually. For 2021 and beyond, the new law aligns the phase-out rule for the Lifetime Learning Credit with the more favorable phase-out rule for the American Opportunity Tax Credit, which can be worth up to $2,500 per student each year. The CAA also repeals the Tuition and Fees Deduction for 2021 and later years. Basically, the law trades the old-law write-off for the more favorable new-law Lifetime Learning Credit phase-out rule.

Under the CAA, both the Lifetime Learning Credit and the American Opportunity Tax Credit are phased out for 2021 and beyond between a MAGI of $80,001 and $90,000 for unmarried individuals ($160,001 and $180,000 for married couples filing jointly). Before the new law, the Lifetime Learning Credit was phased out for 2020 between a MAGI of $59,001 and $69,000 for unmarried individuals ($118,001 and $138,000 married couples filing jointly).

Best for you

Talk with us about which of the two remaining education tax credits is the most beneficial in your situation. Each of them has its own requirements. There are also other education tax opportunities you may be able to take advantage of, including a Section 529 tuition plan and a Coverdell Education Savings Account.

The next estimated tax deadline is January 15

If you’re self-employed and don’t have withholding from paychecks, you probably have to make estimated tax payments. These payments must be sent to the IRS on a quarterly basis. The fourth 2020 estimated tax payment deadline for individuals is Friday, January 15, 2021. Even if you do have some withholding from paychecks or payments you receive, you may still have to make estimated payments if you receive other types of income such as Social Security, prizes, rent, interest, and dividends.

Pay-as-you-go system

You must make sufficient federal income tax payments long before the April filing deadline through withholding, estimated tax payments, or a combination of the two. If you fail to make the required payments, you may be subject to an underpayment penalty, as well as interest.

In general, you must make estimated tax payments for 2020 if both of these statements apply:

  1. You expect to owe at least $1,000 in tax after subtracting tax withholding and credits, and
  2. You expect withholding and credits to be less than the smaller of 90% of your tax for 2020 or 100% of the tax on your 2019 return — 110% if your 2019 adjusted gross income was more than $150,000 ($75,000 for married couples filing separately).

If you’re a sole proprietor, partner or S corporation shareholder, you generally have to make estimated tax payments if you expect to owe $1,000 or more in tax when you file your return.

Quarterly due dates

Estimated tax payments are spread out through the year. The due dates are April 15, June 15, September 15 and January 15 of the following year. However, if the date falls on a weekend or holiday, the deadline is the next business day.

Estimated tax is calculated by factoring in expected gross income, taxable income, deductions and credits for the year. The easiest way to pay estimated tax is electronically through the Electronic Federal Tax Payment System. You can also pay estimated tax by check or money order using the Estimated Tax Payment Voucher or by credit or debit card.

Seasonal businesses

Most individuals make estimated tax payments in four installments. In other words, you can determine the required annual payment, divide the number by four and make four equal payments by the due dates. But you may be able to make smaller payments under an “annualized income method.” This can be useful to people whose income isn’t uniform over the year, perhaps because of a seasonal business. You may also want to use the annualized income method if a large portion of your income comes from capital gains on the sale of securities that you sell at various times during the year.

Determining the correct amount

Contact us if you think you may be eligible to determine your estimated tax payments under the annualized income method, or you have any other questions about how the estimated tax rules apply to you.

Tips to Get Ready and Plan for 2020 Tax Returns

Dear Client,

We hope that you and your family are staying safe and healthy.

We can’t believe 2020 is almost over but can’t wait to put the year 2020 behind us, either!

While we are getting ready to send our 2020 tax organizer in early January, we would like to list here the important tax updates that may impact you.

Here are some of the changes and issues you may need to know about.

Unemployment compensation: 

Expanded unemployment insurance benefits were available to many taxpayers due to the COVID-19 pandemic. California does not tax unemployment compensation, but the federal government does. If you received unemployment compensation, even if you elected to have federal income taxes withheld, it’s likely that the withholding was insufficient to cover your tax liability. Be sure to contact us early so we can determine whether you have additional tax liabilities before the April 15 payment deadline.

Stimulus payments: 

The CARES Act, which was passed into law to help stimulate the economy during the COVID-19 pandemic, authorized stimulus payments (also referred to as economic impact payments) that were issued to many taxpayers. People who received economic impact payments should have received IRS Notice 1444, Your Economic Impact Payment, notifying them of the amount of the payment they should have received. The economic impact payments are treated as advance tax credits against your 2020 income taxes. As such, you will need to include a copy of Notice 1444 when you provide us with your other tax documents.

Property transactions: 

Did you sell any real estate this year? Be sure to provide copies of escrow statements, as well as the Loan Estimate form, the Closing Disclosure form, and California Form 593, Real Estate Withholding Tax Statement. We need these documents to properly prepare your return. If you can get them to us as early as possible, we can make sure that we have everything we need and that any state withholding documentation is correct.

California introduced penalties for failure to carry health insurance:

The federal government repealed the penalty for failure to maintain health insurance (referred to as the “individual mandate”) starting with the 2019 tax year. In response to the federal government’s repeal, the state of California will charge an individual who fails to secure coverage an annual penalty of $695 or more when they file their 2020 California tax return. The minimum penalty for families of four or more individuals is $2,085. The penalty can rise as high as 2.5% of household income, which can be many thousands of dollars. Be sure to maintain your health insurance coverage to avoid this costly California tax penalty.

1099s and K-1s:

 If you received 1099s or K-1s from investments in 2020, we may extend your return in case these documents are corrected after the original filing deadline. We are seeing increasing numbers of corrected information returns, which require taxpayers to amend their original tax returns to reflect the corrected amounts. In some cases, the amounts are vastly different and can create additional costs in amending the tax returns and potential penalty problems.

Foreign accounts: 

We must report overseas assets owned by businesses as well as individuals. So, the reporting requirements are increasing and the penalties for failure to report continue to be harsh. Not all foreign holdings must be reported. If, for example, you hold stock in a foreign company through a U.S. broker, those holdings do not have to be separately reported. However, if you hold any other types of foreign assets, including bank accounts and securities accounts, please let us know. If you have any doubt as to whether any of your assets are foreign, please discuss those assets with us. Again, this year we will need information on a business’ foreign holdings as well.

Please take extra care in preparing your organizer and tax documentation so we can do the best possible job to find new tax benefits that are hidden in the law and protect you from more aggressive audit programs and larger penalties.

Call, email, or text us – our team is ready and able year-round for all your tax questions and concerns.

Cheers to 2021!

Considering moving out of California? 10 Tips to survive a CA residency audit

We hear many of corporations who are moving out of California and many of our clients are seriously thinking about it. Before you make the decision, here are 10 items (in no particular order) that you need to be aware of if you want to survive a residency audit.

1. You must break meaningful ties with California.

It is not enough to build new ties with another state if your ties with California do not decrease — significantly. If you are a California resident/domiciliary, it will be presumed you continue to be a California resident/domiciliary, and you need to overcome that presumption. For example, keeping the family home in California, the business office in California, and/or continuing to use long-time professionals in California, even if you are acquiring a new home, new office, and new professionals in the “new” state, can cause significant problems in an audit and should be carefully thought out.

2. You must build solid new ties with another state that are, at a bare minimum, comparable to the ties you had in California.

It is not enough to break California ties if you do not reestablish yourself permanently somewhere else. The analysis in an audit by the FTB is going to be California ties versus ties to a single new state where residence/domicile is claimed. For example, if you spend 40% of your time in California, 30% in the new state, and 30% traveling and in miscellaneous other states, that is not a strong factual scenario, even though you spend less time in California than elsewhere in total.

3. The times you do return to California after the move need a solid case for being for a temporary or transitory purpose.

You can become a resident/domiciliary of another state and still spend time in California as long as that time in California is for a “temporary or transitory purpose.” Returning back to California to visit family, for vacations, for business trips, for a course of medical treatment, etc., should all be fine as a nonresident as long as they are carefully managed and fall within that standard.

4. Watch the timing of the change.

It is one thing to move out of California and successfully change your residency/domicile to another state, but precisely when did that change take place? For example, buying a home in Nevada on July 1 and having a large income realization event on September 1 will accomplish nothing in terms of changing your California tax situation if the FTB on audit agrees that you moved from California to Nevada, but that the date of the move is October 1 when all factors are taken into consideration. Although one is perfectly free under the law to change their residence/domicile to achieve tax savings, remember that auditors often take a dim view of changes that are claimed to occur very soon before a large income event, often resulting in a tougher burden to show a genuine move took place. Pick your move date carefully.

5. Watch out for California–source income issues.

Carefully consider and understand if there is income that has a California source, a change of residency will not keep that income from being taxed by the FTB. For instance, stock options that vested while a California resident, rent from a California real property, and income from passthrough entities that have a California source are all taxable to a nonresident of California. It is very common for the FTB to take alternative positions in residency audits, i.e., the individual is still a California resident, but even if they became a nonresident, some/all of the income is still taxable because it has a California source. Nonresident sourcing was a major issue on appeal in the infamous Hyatt residency case, even though the FTB did not even rely upon that argument at audit. (Appeal of Hyatt (January 14, 2019) Op. on Pet. For Rehearing)

6. Watch your conduct — for several years — after the move.

California has a four-year period to audit after the filing of the return (R&TC §19057). For example, assume you move in Year 1, but in Years 2 and 3 you begin to spend significantly more time back in California. If you are audited during Year 3 (or 4) for the change of residency/domicile in Year 1, it is extremely likely that your conduct in Years 2 and 3 (or 4) are going to be examined as part of that audit, even if the audit is technically only for Year 1. (It is also likely those later years will be added to the audit.) That is because the FTB may see subsequent conduct reflecting on prior conduct, i.e., maybe you really did not move in Year 1 after all, if you increased your ties back to California in the immediate subsequent years.

7. Watch for different treatment of spouses.

It is possible, although not frequent, that spouses may have different residences/domiciles, either as filed or as a result of audit. If this is the case, keep in mind that community property must be divided between them (Appeal of Misskelley (May 8, 1984) 84-SBE-077).

8. Be prepared for an audit.

Then be pleasantly surprised if it does not happen. The larger the potential tax effect from a change on audit, the more likely the audit because of the way the FTB allocates audit resources. Much of the audit selection process is done by computer programs. A California resident who moves and then stops filing returns (i.e., not filing nonresident returns to report California-source income) might generate audit interest, especially involving a high wealth individual. A part-year return that shows a move during a calendar year might generate audit interest. A subsequent nonresident return that shows large amounts of income but with little of it reported to California is very likely to generate audit interest. Remember also that for tax years in which no return is filed, the FTB has an open, unlimited, period in which to audit and assess a deficiency.

9. Do your best to document your case contemporaneously with the move.

The FTB’s strong preference is for “contemporaneous” documentation, as opposed to documentation created at a later time, e.g., at audit. So try to give the FTB what it wants. However, there is no legal limitation that documentation in a residency case must be “contemporary,” and, for instance, it is common practice to obtain affidavits/declarations from the taxpayer, his or her friends, employers, or business associates in responses to issues raised by the FTB at audit (18 Cal. Code Regs. §17014(d)(1)).

10. Live your life.

Life is short and one should not live it constantly looking over their shoulders and worrying about the threat of an FTB audit or assessment. Taxes are simply an expense that is a part of life, so maintain perspective. For example, do you really want to give up your family doctor (or specialist) in California whom you have seen for 20-plus years to start a new relationship with a new doctor elsewhere, simply because it might incrementally strengthen to some degree your argument that you moved out of California? Choosing the best tax-driven decision may not be the same as the best life-driven decision.

Call us with any questions if you are considering moving out of California.

Take advantage of the heavy SUV tax break

Are you considering replacing a car that you’re using in your business? There are several tax implications to keep in mind.

A cap on deductions

Cars are subject to more restrictive tax depreciation rules than those that apply to other depreciable assets. Under so-called “luxury auto” rules, depreciation deductions are artificially “capped.” So is the alternative Section 179 deduction that you can claim if you elect to expense (write-off in the year placed in service) all or part of the cost of a business car under the tax provision that for some assets allows expensing instead of depreciation. For example, for most cars that are subject to the caps and that are first placed in service in calendar year 2020 (including smaller trucks or vans built on a truck chassis that are treated as cars), the maximum depreciation and/or expensing deductions are:

  • $18,100 for the first tax year in its recovery period (2020 for calendar year taxpayers);
  • $16,100 for the second tax year;
  • $9,700 for the third tax year; and
  • $5,760 for each succeeding tax year.

The effect is generally to extend the number of years it takes to fully depreciate the vehicle.

The heavy SUV strategy

Because of the restrictions for cars, you might be better off from a tax standpoint if you replace your business car with a heavy sport utility vehicle (SUV), pickup or van. That’s because the caps on annual depreciation and expensing deductions for passenger automobiles don’t apply to trucks or vans (and that includes SUVs). What type of SUVs qualify? Those that are rated at more than 6,000 pounds gross (loaded) vehicle weight.

This means that in most cases you’ll be able to write off the entire cost of a new heavy SUV used entirely for business purposes as 100% bonus depreciation in the year you place it into service. And even if you elect out of bonus depreciation for the heavy SUV (which generally would apply to the entire depreciation class the SUV belongs in), you can elect to expense under Section 179 (subject to an aggregate dollar limit for all expensed assets), the cost of an SUV up to an inflation-adjusted limit ($25,900 for an SUV placed in service in tax years beginning in 2020). You’d then depreciate the remainder of the cost under the usual rules without regard to the annual caps.

Potential caveats

The tax benefits described above are all subject to adjustment for non-business use. Also, if business use of an SUV doesn’t exceed 50% of total use, the SUV won’t be eligible for the expensing election, and would have to be depreciated on a straight-line method over a six-tax-year period.

Contact us if you’d like more information about tax breaks when you buy a heavy SUV for business.

Heavy SUV tax deductions

Before Dec. 31, your business should act quickly and purchase any needed business equipment and other depreciable property. That way, you can take advantage of the Section 179 deduction and bonus depreciation.

We informed you on these rules a few times already, but these are still some of the best business tax strategies you can take advantage of before the year-end.

The election provides a tax windfall to businesses, enabling them to claim immediate deductions for qualified assets, instead of taking depreciation deductions over time.

Even better, the Sec. 179 deduction isn’t the only avenue for immediate tax write-offs for qualified assets. Under the 100% bonus depreciation tax break, the entire cost of eligible assets placed in service in 2020 can be written off this year.

You may finance to purchase business properties, so no cash or little is spent, but the entire purchase price is either deducted 100% or depreciated in 2020. Unbeatable tax strategy you should consider to your taxable income.

But to benefit for this tax year, you need to buy and place qualifying assets in service by December 31.

Many of you asked – you are considering replacing the car that you are using for your business – for tax savings purposes, you may be better off if you replace your business car with a heavy sport utility vehicle (SUV). That’s because the caps on annual depreciation and expensing deductions for passenger automobiles don’t apply to trucks or vans (and that includes SUVs) that are rated at more than 6,000 pounds gross (loaded) vehicle weight. This means that in most cases you will be able to write-off the entire cost of a new heavy SUV used entirely for business purposes as 100% bonus depreciation in the year you place it into service.

Please note that the tax benefits described above are all subject to adjustment for non-business use. Also, if business use of an SUV doesn’t exceed 50% of total use, the SUV won’t be eligible for the expensing election, and would have to be depreciated on a straight-line method over a six-tax-year period.

What qualifies?

The Sec. 179 deduction applies to tangible personal property such as machinery and equipment purchased for use in a trade or business, and, if the taxpayer elects, qualified real property. It’s generally available on a tax year basis and is subject to a dollar limit.

The annual deduction limit is $1.04 million for tax years beginning in 2020, subject to a phaseout rule. Under the rule, the deduction is phased out (reduced) if more than a specified amount of qualifying property is placed in service during the tax year. The amount is $2.59 million for tax years beginning in 2020. (Note: Different rules apply to heavy SUVs.)

There’s also a taxable income limit. If your taxable business income is less than the dollar limit for that year, the amount for which you can make the election is limited to that taxable income. However, any amount you can’t immediately deduct is carried forward and can be deducted in later years (to the extent permitted by the applicable dollar limit, the phaseout rule, and the taxable income limit).

In addition to significantly increasing the Sec. 179 deduction, the TCJA also expanded the definition of qualifying assets to include depreciable tangible personal property used mainly in the furnishing of lodging, such as furniture and appliances.

The TCJA also expanded the definition of qualified real property to include qualified improvement property and some improvements to nonresidential real property, such as roofs; heating, ventilation and air-conditioning equipment; fire protection and alarm systems; and security systems.

What about bonus depreciation?

With bonus depreciation, businesses are allowed to deduct 100% of the cost of certain assets in the first year, rather than capitalize them on their balance sheets and gradually depreciate them. (Before the Tax Cuts and Jobs Act, you could deduct only 50% of the cost of qualified new property.)

This tax break applies to qualifying assets placed in service between September 28, 2017, and December 31, 2022 (by December 31, 2023, for certain assets with longer production periods and for aircraft). After that, the bonus depreciation percentage is reduced by 20% per year, until it’s fully phased out after 2026 (or after 2027 for certain assets described above).

Bonus depreciation is allowed for both new and used qualifying assets, which include most categories of tangible depreciable assets other than real estate.

Contact us if you have questions, or you want more information about how your business can maximize the deductions.

Divorcing couples should understand these 4 tax issues

When a couple is going through a divorce, taxes are probably not foremost in their minds. But without proper planning and advice, some people find divorce to be an even more taxing experience.