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Federal Income Tax Update 2021

Federal Income Tax 2021 Review Replay Video

Hosted by Daniel M. Krug, CEO and Senior Wealth Manager, Rocky Istvan, CCO and Associate Wealth Manager. Special Guest Speaker Brenda Hunter, CPA

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IRS Facts about Filing & Paying Late

April 15 is the tax day deadline for most people. If you’re due a refund there’s no penalty if you file a late tax return. But if you owe taxes and you fail to file and pay on time, you’ll usually owe interest and penalties on the taxes you pay late.

The number of electronic filing and payment options increases every year, which helps reduce your burden and also improves the timeliness and accuracy of tax returns. However, the law provides that the IRS can assess a penalty if you fail to file, fail to pay or both.

Here are eight important points about the two different penalties you may face if you file or pay late.

  1. If you do not file a tax return or extension by the deadline, you might face a failure-to-file penalty. If you do not pay by the due date, you could face a failure-to-pay penalty.
  2. The failure-to-file penalty is generally more than the failure-to-pay penalty. So if you cannot pay all the taxes you owe, you should still file your tax return on time and pay as much as you can, then explore other payment options such as getting a loan or paying by credit card. The IRS will work with you to help you resolve your tax debt.  Most people can set up a payment plan with the IRS using the online payment agreement application on the IRS.gov website.
  3. The penalty for filing late is normally 5 percent of the unpaid taxes for each month or part of a month that a return is late. This penalty will not exceed 25 percent of your unpaid taxes.
  4. If you file your return more than 60 days after the due date or extended due date, the minimum penalty is the smaller of $135 or 100 percent of the unpaid tax.
  5. If you do not pay your taxes by the due date, you will generally have to pay a failure-to-pay penalty of 0.5 percent of your unpaid taxes for each month or part of a month after the due date that the taxes are not paid. This penalty can be as much as 25 percent of your unpaid taxes.
  6. If you requested an extension of time to file your income tax return by the tax due date and paid at least 90 percent of the taxes you owe, you may not face a failure-to-pay penalty. However, you must pay the remaining balance by the extended due date. You will owe interest on any taxes you pay after the April 15 due date.
  7. If the 5 percent failure-to-file penalty and the 0.5 percent failure-to-pay penalty both apply in any month, the maximum penalty amount charged for that month is 5 percent.
  8. You will not have to pay a failure-to-file or failure-to-pay penalty if you can show that you failed to file or pay on time because of reasonable cause and not because of willful neglect.

 

 

© IRS Tax Tip 2012-74, April 17, 2012        ©IRS Tax Tip 2014-56, April 16, 2014

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The Earned Income Credit

The number of returns claiming the Earned Income Tax Credit (EITC) has grown in recent years, but that doesn’t mean it that taxpayers understand the complexity of it.  The earned income credit is a refundable tax credit designed for lower income working families and individuals. However, there are many requirements that must be met to qualify. The amount of the credit varies depending on your level of income and how many dependents you support.

How it Works & Who Qualifies

Citizenship.  To qualify for the EITC, the taxpayer (and spouse, if married) must be a U.S. citizen (or a resident alien) for the entire year.

Nonresident Alien. If the taxpayer (or spouse) is a nonresident alien for any part of the year, he or she cannot claim the EITC unless the taxpayer files jointly with his or her spouse. This filing status may be used only if one spouse is a U.S. citizen (or resident alien) and the nonresident spouse elects to be treated as a U.S. resident. If they make this election, the couple will be subject to U.S. tax on their worldwide income, not just the amounts earned in the United States.

Social Security Numbers. The taxpayer (and spouse, if married and filing jointly) must have a valid Social Security number. This is also a requirement for any qualifying child.

Note: A taxpayer or spouse who has an individual taxpayer identification number (ITIN) (rather than a Social Security number) is not eligible to claim the EITC.

Filing Status. If the taxpayer is married, he or she must generally file as “married filing jointly”; a taxpayer filing as “married filing separately” cannot claim the EITC.

Claiming the EITC
Taxpayers Without Qualifying Children
If a taxpayer does not have any qualifying children, in addition to the requirements already discussed, he or she must meet four additional tests to be eligible for the EITC:

  • Be at least age 25 but under 65.
  • Not qualify as a dependent of another person. Thus, if another person can claim the taxpayer (or spouse, if filing a joint return) as a dependent but does not, the taxpayer cannot claim the credit.
  • Cannot be the qualifying child of another taxpayer—even if the other taxpayer does not claim the EITC or meet all of the requirements to claim the EITC.
  • Must have lived in the United States (i.e., the 50 states or the District of Columbia) for more than half the year. Note that this excludes Puerto Rico or U.S. possessions (such as Guam).

Taxpayers With Qualifying Children
For a taxpayer with children, the children must also meet four tests:

Relationship Test. The child must be:

  • The taxpayer’s son, daughter, stepchild, foster child, or a descendant of any of them (e.g., a grandchild); or
  • The brother, sister, half-brother, half-sister, stepbrother, stepsister, or a descendant of any of them (e.g., a niece or nephew).

Age Test. The child must be:

  • Under age 19 at year end and younger than the taxpayer (and the taxpayer’s spouse, if filing jointly);
  • Under age 24 at year end, a student, and younger than the taxpayer (and the taxpayer’s spouse, if filing jointly); or
  • Permanently and totally disabled at any time during the year, regardless of age.

Student. To qualify as a student, during some part of each of any five calendar months during the calendar year (Note that the five calendar months need not be consecutive), the child must be:

  1. A full-time student at a school with a regular teaching staff, course of study, and regular student body; or
  2.  A student taking a full-time, on-farm training course given by such a school or a state, county, or local government.

Permanent Disability. A child is permanently and totally disabled if:

  1. He or she cannot engage in any substantial gainful activity because of a physical or mental condition, and
  2. A doctor determines the condition has lasted (or can be expected to last) continuously for at least a year or can lead to death.

Residency Test. The child must have lived with the taxpayer in the United States (again, the 50 states or the District of Columbia) for more than half the year. Again, Puerto Rico and U.S. possessions are excluded.

Birth or Death of Child. A child who was born or died during a year is treated as having lived with the taxpayer for more than half that year, if the child lived in the taxpayer’s home for more than half the time the child was alive during the year.

Temporary Absences. Time that a taxpayer or a child is temporarily away from home because of a special circumstance is counted as time lived with the taxpayer. Examples of this include illness, school attendance, business, vacation, military service, and detention in a juvenile facility.

Joint Return Test. A qualifying child cannot file a joint return for the tax year (although there are exceptions for children filing joint returns simply to obtain refunds of withheld taxes).

Qualifying Child of More Than One Person
Sometimes a child meets the tests to be a qualifying child for more than one person. In this situation, only one person can actually claim the child.
This is true for several tax benefits (provided the person is eligible for each), as well as for the EITC:

  • The child’s personal exemption.
  • The child tax credit.
  • Head-of-household filing status.
  • The credit for child and dependent care expenses.
  • The exclusion for dependent care benefits.

Tie-Breaker Rules. These rules determine who of several persons may claim the EITC. (They do not apply if the other person is the taxpayer’s spouse and they file a joint return.)

  • If one person is the child’s parent, the child is treated as the parent’s qualifying child.
  • If the parents do not file a joint return but both claim the child, the IRS will treat the child as the qualifying child of the parent with whom the child lived longer during the year. If the child lived with each parent for the same amount of time, the IRS will treat the child as the qualifying child of the parent with the higher adjusted gross income (AGI) for the year.
  • If no parent can claim the child, the child is treated as the qualifying child of the person with the highest AGI for the year.
  • If a parent can claim the child but that parent does not, the child is treated as the qualifying child of the person with the highest AGI for the year, but only if that person’s AGI is higher than the highest AGI of any of the child’s parents who can claim the child. If the child’s parents file a joint return with each other, this rule can be applied by treating the parents’ total AGI as divided evenly between them.

If the other person cannot claim the EITC. If the taxpayer and another individual have the same qualifying child, but the other person cannot claim the credit (because the person is not eligible or his or her earned income or AGI is too high), the taxpayer may be able to treat the child as a qualifying child. Note, however, that a taxpayer cannot treat the child as a qualifying child to claim the EITC if the other person uses the child to claim any of the other five tax benefits previously listed.

Earned Income
As indicated by its name, this credit is available only to taxpayers who have earned income. If a taxpayer is married and files a joint return, this requirement is met if at least one of the spouses works and has earned income. Earned income includes:

  • Wages, salaries, tips, and other taxable employee pay;
  • Net earnings from self-employment, reduced by the deductible portion of the SE tax;
  • Gross income received as a statutory employee;
  • Disability benefits received before minimum retirement age to the extent included in taxable wages on Form 1040, line 7; and
  • Nontaxable combat pay, if the taxpayer elects to treat it as earned income for EIC purposes.

It does not include (among other things) interest and dividends; pensions and annuities; alimony and child support; and welfare benefits and unemployment compensation.

Taxable disability benefits received under an employer’s disability retirement plan are earned income until the taxpayer reaches minimum retirement age (generally, the earliest age at which a taxpayer could have received a pension or annuity if he or she were not disabled). Once a taxpayer reaches minimum retirement age, these payments are taxable as a pension and are not earned income. (Note: Payments from a disability insurance policy for which the taxpayer paid the premiums are not earned income, regardless of the taxpayer’s age.)

Foreign Earned Income. A taxpayer cannot claim the EITC if he or she has foreign earned income and files either Form 2555, Foreign Earned Income, or Form 2555-EZ, Foreign Earned Income Exclusion.

Investment Income. A taxpayer may have only a limited amount of investment income; for 2013, this amount must be $3,300 or less. For 2014, the amount is $3,350 or less. Investment income generally includes interest (including tax-exempt interest), dividends, capital gain net income, net rental income, net royalty income, and net passive activity income. Gain treated as long-term capital gain under Sec. 1231(a)(1) will not be considered investment income.

AGI Limits. Only taxpayers with income below certain levels are eligible for the EITC. These amounts differ, depending on whether the taxpayer is married and on how many children (if any) the taxpayer has. As a taxpayer’s AGI increases, the credit is phased out, with taxpayers above certain income levels not eligible for any credit at all.

For 2013, the phaseout ranges are:

  • $7,970–$14,340 ($13,310–$19,680 for married filing jointly) for a taxpayer with no qualifying children.
  • $17,530 –$37,870 ($22,870–$43,210 for married filing jointly) for a taxpayer with one qualifying child.
  • $17,530 –$43,038 ($22,870–$48,378 for married filing jointly) for a taxpayer with two qualifying children.
  • $17,530–$46,227 ($22,870–$51,567 for married filing jointly) for a taxpayer with three or more qualifying children.

For 2014, the phaseout ranges are:

  • $8,110–$14,590 ($13,540–$20,020 for married filing jointly) for a taxpayer with no qualifying children.
  • $17,830–$38,511 ($23,260–$43,941 for married filing jointly) for a taxpayer with one qualifying child.
  • $17,830–$43,756 ($23,260–$49,186 for married filing jointly) for a taxpayer with two qualifying children.
  • $17,830–$46,997 ($23,260–$52,427 for married filing jointly) for a taxpayer with three or more qualifying children.

If a taxpayer’s AGI falls within one of these ranges, his or her EITC must be reduced by the applicable phaseout percentage multiplied by the difference between the taxpayer’s AGI and the bottom of the range. The phaseout percentages are:

  • 7.65% for a taxpayer with no qualifying children.
  • 15.98% for a taxpayer with one qualifying child.
  • 21.06% for a taxpayer with two or more qualifying children.

Community Property. If a taxpayer is married but qualifies to file as head of household under the special rules for married taxpayers living apart and lives in a state with community property laws, the taxpayer’s AGI includes that portion of both the taxpayer’s and the spouse’s wages that the taxpayer is required to include in gross income.

Computing the EITC
The EITC is computed by multiplying the taxpayer’s earned income for the year (up to a maximum amount) by an applicable credit percentage based on the number of qualifying children that the taxpayer has.

Maximum earned income amount. The maximum amount that can be taken into account in calculating the EITC for 2013 is

  • $6,370 for a taxpayer with no qualifying children.
  • $9,560 for a taxpayer with one qualifying child.
  • $13,430 for a taxpayer with two or more qualifying children.

Maximum earned income amount. The maximum amount that can be taken into account in calculating the EITC for 2014 is

  • $6,480 for a taxpayer with no qualifying children.
  • $9,720 for a taxpayer with one qualifying child.
  • $13,650 for a taxpayer with two or more qualifying children.

Applicable credit percentages. The percentages used in this calculation are

  • 7.65% for a taxpayer with no qualifying children.
  • 34% for a taxpayer with one qualifying child.
  • 40% for a taxpayer with two qualifying children.
  • 45% for a taxpayer with three or more qualifying children.

Maximum credit amounts. Therefore, the maximum EITC that can be claimed in 2013 is

  • $487 for a taxpayer with no qualifying children.
  • $3,250 for a taxpayer with one qualifying child.
  • $5,372 for a taxpayer with two qualifying children.
  • $6,044 for a taxpayer with three or more qualifying children.

Maximum credit amounts. Therefore, the maximum EITC that can be claimed in 2014 is

  • $496 for a taxpayer with no qualifying children.
  • $3,305 for a taxpayer with one qualifying child.
  • $5,460 for a taxpayer with two qualifying children.
  • $6,143 for a taxpayer with three or more qualifying children.

 

Return Preparer Due Diligence
The IRS estimates that 22% to 26% of all EITC claims submitted contain some type of mistake. While some of those mistakes may be attributable to the complex rules outlined above, the IRS has been stepping up enforcement efforts against practitioners, including sending letters to return preparers who it suspects have filed inaccurate EITC claims.
As paid preparers we must meet certain due-diligence requirements when preparing a return that claims the EITC. These include a requirement to complete and file Form 8867, Paid Preparer’s Earned Income Credit Checklist, with the taxpayer’s income tax return on which the credit is claimed. We must also not know or have any reason to know that any information used to determine a taxpayer’s eligibility or compute the credit is incorrect. The consequences to practitioners of filing inaccurate EITC claims are strict and could include barring preparers from tax return preparation, and there are also consequences for taxpayers who file false EITC claims, so we hope this information was helpful. As always we are here for any questions or concerns you may have!

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Top Reasons to File Your Taxes Early

Every April, many taxpayers wait until the last minute to file their federal income tax returns, whether from taking more time to find and organize their documents or from simple procrastination. As long as individuals get their taxes in by the April 15 deadline, they will not incur any late filing penalties. However, waiting until then can still complicate tax matters and there are a number of benefits that come with filing sooner rather than later.

Extra Time to Pay Balance Due

Individuals who anticipate owing a tax liability may not be aware of how high their bill will be. This extra time is particularly helpful to those who need to find out exactly how much they will owe the IRS or State, giving them more time to save money or reorganize their finances before their balance is due on the filing deadline in mid-April.

Faster Refunds

This is the most obvious reason a taxpayer might want to file as early as possible, but try not to fall into the trap of thinking you need the refund before the IRS can get it to you. Some tax preparation services offer refund anticipation loans, which have steep fees that eat into that refund.  Submitting your return electronically with direct deposit into your bank account is the fastest way to get your refund. It can take up to several weeks longer for paper returns, so it is always better to e-file a return if you want to receive your refund quickly. This quicker return can be used to bump up savings, plan a vacation or pay down debt. Either way, early filing will put individuals in a position to better manage their finances and plan ahead.

The earlier you begin, the less stressful filing will be!

Early tax filers may also find that tax season – traditionally classified as a stressful time for individuals – is made simpler and more efficient the earlier they begin. This is the case for a number of reasons. First, early filers will likely already have their documentation in order for claiming credits and deductions, which can greatly cut down on the time it takes looking for this information.

Additionally, those who begin early on may have more time with their tax preparer than those who wait until the last minute. The closer to April 15 we get, the busier tax preparers often become. Therefore, individuals who want to have several meetings with a professional or extended sessions might benefit from setting up an initial meeting early. This will give them a great deal of time to ask questions, get advice on their particular situations and review their returns.

Obtaining Financial Information

If you are expecting a big life change such as purchasing a house or returning to college, preparing your tax return early can help you obtain essential information. College students use the information from Form 1040 to apply for financial aid, while prospective homebuyers often have to show their completed tax return as proof of their household income. Getting your tax return done early — whether you owe money or expect a refund — gives you a head start on the paperwork you will need for these processes.

You’ll lessen your odds of becoming a victim of identity theft.

The sooner you file your return, the less opportunity someone else has to file a return in your name, which has become a popular form of identity theft. Refund fraud caused by identity theft is one of the biggest challenges facing the IRS. Some criminals have been known to break into a home or car, steal identification and then file taxes in that person’s name, scoring a refund that doesn’t belong to them. While the odds are slim that that will happen to you, it is another reason to file earlier rather than later.

There’s more time to catch potential mistakes.

If you wade into your taxes now and discover there’s paperwork you need that you don’t have, or it’s simply going to be a more complicated tax year than you anticipated, you may not end up filing early, but now you have more time to spend on your taxes.

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What You Can Learn From Your Tax Return

Tax time may be over, but before you store your return in the attic, take a moment to review it. According to the Michigan Association of CPAs, you’ll find that you can discover a lot about your financial situation and identify changes that will improve your tax outlook before it’s time to file next year’s return.

Proper Filing Now Makes It Easier to File Later
Two kinds of “filing” are important when it comes to taxes, beginning with the filing you do to keep your records, receipts and other important documents in order so that they’re accessible and organized when tax time comes. If preparing for tax time was a hassle this year, remember that if you know where to find your paperwork, it will be less of a challenge to gather the information you need to file your return accurately and on time next year.

Are You Saving Enough for Retirement?
Your tax return will reveal whether you’ve made the most of your tax-advantaged retirement saving options. If you haven’t, it’s a good idea to change your habits. If you qualify for a regular or Roth IRA, for example, we can help you consider which choice is best for you. In addition, business owners who qualify for SEP-IRAs but aren’t making their full contribution may want to step up their savings this year. Finally, employees who aren’t contributing their full share to employer-sponsored retirement plans forgo not only tax advantages but also any matching contributions their employers might make. Filak CPA Group can explain which options are open to you and how much you can contribute.

Did You Take the Right Tax Deductions and Credits?
Many people are aware of the deductions for state taxes or mortgage interest paid and they may be familiar with popular tax credits, such as the Hope and Lifetime Learning Credits for education expenses. Based on your situation, you may also qualify for other deductions and credits that can lower the taxes you pay by hundreds or thousands of dollars. Take the time to review your 2011 tax return with us to determine whether some smart tax planning can help you qualify for a greater range of deductions or credits this year. Speaking of deductions, if you’re coming to the end of your mortgage loan and your mortgage deduction isn’t as big as it used to be, it may be time to consider pumping up your monthly payments so you can get rid of your mortgage sooner, leaving you with more money for a child’s college tuition, retirement or some other goal. Once again, Filak CPA Group can provide advice.

What’s the Best Use of Your Refund?
If you qualify for a tax refund, the Internal Revenue Service allows you the option of depositing it directly into up to three different savings or checking accounts that you select (you can, of course, also choose to receive your refund in a check). For more information, go to www.irs.gov/form8888. CPAs recommend putting your refund straight into a savings or retirement account so that you can begin to earn interest on it immediately. If you deposit the money into a checking account, it could end up being spent on daily extravagances and disappear before you know it. Another smart choice would be to use your refund dollars to pay off outstanding debt, beginning with high-interest credit cards. That will help you avoid significant outlays on future interest charges on those balances.

We Can Help
Not sure how to identify all the lessons you can learn from your tax return? Remember that we can help, after all that is what we are here for! Turn to us for expert advice on all your financial questions.

Copyright 2012 The American Institute of Certified Public Accountants.