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SEPs: A powerful retroactive tax planning tool

Simplified Employee Pensions (SEPs) are sometimes regarded as the “no-brainer” first choice for high-income small-business owners who don’t currently have tax-advantaged retirement plans set up for themselves. Why? Unlike other types of retirement plans, a SEP is easy to establish and a powerful retroactive tax planning tool: The deadline for setting up a SEP is favorable and contribution limits are generous.

SEPs do have a couple of downsides if the business has employees other than the owner: 1) Contributions must be made for all eligible employees using the same percentage of compensation as for the owner, and 2) employee accounts are immediately 100% vested.

Deadline for set-up and contributions

A SEP can be established as late as the due date (including extensions) of the business’s income tax return for the tax year for which the SEP is to first apply. For example:

  • A calendar-year partnership or S corporation has until March 15, 2017, to establish a SEP for 2016 (September 15, 2017, if the return is extended).
  • A calendar-year sole proprietor or C corporation has until April 18, 2017 (October 16, 2017, if the return is extended), because of their later filing deadlines.

The deadlines for limited liability companies (LLCs) depend on the tax treatment the LLC has elected. Furthermore, the business has until these same deadlines to make 2016 contributions and still claim a potentially hefty deduction on its 2016 return.

Generally, other types of retirement plans would have to have been established by December 31, 2016, in order for 2016 contributions to be made (though many of these plans do allow 2016 contributions to be made in 2017).

Contribution amounts

Contributions to SEPs are discretionary. The business can decide what amount of contribution it will make each year. The contributions go into SEP-IRAs established for each eligible employee.
For 2016, the maximum contribution that can be made to a SEP-IRA is 25% of compensation (or 20% of self-employed income net of the self-employment tax deduction) of up to $265,000, subject to a contribution cap of $53,000. The 2017 limits are $270,000 and $54,000, respectively.

Setting up a SEP is easy

A SEP is established by completing and signing the very simple Form 5305-SEP (“Simplified Employee Pension — Individual Retirement Accounts Contribution Agreement”). Form 5305-SEP is not filed with the IRS, but it should be maintained as part of the business’s permanent tax records. A copy of Form 5305-SEP must be given to each employee covered by the SEP, along with a disclosure statement.

Of course, additional rules and limits do apply to SEPs, but they’re generally much less onerous than those for other retirement plans. If you think a SEP might be good for your business, please contact us.

© 2017

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When an elderly parent might qualify as your dependent

It’s not uncommon for adult children to help support their aging parents. If you’re in this position, you might qualify for the adult-dependent exemption. It allows eligible taxpayers to deduct up to $4,050 for each adult dependent claimed on their 2016 tax return.

Basic qualifications

For you to qualify for the adult-dependent exemption, in most cases your parent must have less gross income for the tax year than the exemption amount. (Exceptions may apply if your parent is permanently and totally disabled.) Generally Social Security is excluded, but payments from dividends, interest and retirement plans are included.

In addition, you must have contributed more than 50% of your parent’s financial support. If you shared caregiving duties with a sibling and your combined support exceeded 50%, the exemption can be claimed even though no one individually provided more than 50%. However, only one of you can claim the exemption.

Factors to consider

Even though Social Security payments can usually be excluded from the adult dependent’s income, they can still affect your ability to qualify. Why? If your parent is using Social Security money to pay for medicine or other expenses, you may find that you aren’t meeting the 50% test.

Don’t forget about your home. If your parent lives with you, the amount of support you claim under the 50% test can include the fair market rental value of part of your residence. If the parent lives elsewhere — in his or her own residence or in an assisted-living facility or nursing home — any amount of financial support you contribute to that housing expense counts toward the 50% test.

Easing the financial burden

Sometimes caregivers fall just short of qualifying for the exemption. Should this happen, you may still be able to claim an itemized deduction for the medical expenses that you pay for the parent. To receive a tax benefit, the combined medical expenses paid for you, your dependents and your parent must exceed 10% of your adjusted gross income.

The adult-dependent exemption is just one tax break that you may be able to employ to ease the financial burden of caring for an elderly parent. Contact us for more information on qualifying for this break or others.

© 2017

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Keep family matters out of the public eye by avoiding probate

Although probate can be time consuming and expensive, perhaps its biggest downside is that it’s public — anyone who’s interested can find out what assets you owned and how they’re being distributed after your death. The public nature of probate can also draw unwanted attention from disgruntled family members who may challenge the disposition of your assets, as well as from other unscrupulous parties.

However, by implementing the right estate planning strategies, you can keep much or even all of your estate out of probate.

Probate, defined

Probate is a legal procedure in which a court establishes the validity of your will, determines the value of your estate, resolves creditors’ claims, provides for the payment of taxes and other debts and transfers assets to your heirs.

Is probate ever desirable? Sometimes. Under certain circumstances, you might feel more comfortable having a court resolve issues involving your heirs and creditors. Another possible advantage is that probate places strict time limits on creditor claims and settles claims quickly.

Choose the right strategies

There are several ways you can avoid (or minimize) probate. (You’ll still need a will — and probate — to deal with guardianship of minor children, disposition of personal property and certain other matters.)

The right strategies depend on the size and complexity of your estate. The simplest ways to avoid probate involve designating beneficiaries or titling assets in a manner that allows them to be transferred directly to your beneficiaries outside your will. So, for example, be sure that you have appropriate, valid beneficiary designations for assets such as life insurance policies, annuities and retirement plans.

For assets such as bank and brokerage accounts, look into the availability of “pay on death” (POD) or “transfer on death” (TOD) designations, which allow these assets to avoid probate and pass directly to your designated beneficiaries. However, keep in mind that, while the POD or TOD designation is permitted in most states, not all financial institutions and firms make this option available.

For homes or other real estate — as well as bank and brokerage accounts and other assets — some people avoid probate by holding title with a spouse or child as “joint tenants with rights of survivorship” or as “tenants by the entirety.” Be aware that drawbacks exist for this technique.

Contact us with all of your probate questions.

© 2017

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Cooking the books

What’s the most costly type of white collar crime? On average, a company is likely to lose more money from a scheme in which the financial statements are falsified or manipulated than from any other type of occupational fraud incident. The costs frequently include more than just the loss of assets — victimized companies also may suffer lost shareholder value, lower employee morale, premature tax liabilities and reputational damage. Let’s take a closer look at what’s at stake when employees “cook the books.”

Low frequency, high cost

The Report to the Nations on Occupational Fraud and Abuse published in 2016 by the Association of Certified Fraud Examiners (ACFE) found that less than 10% of the fraud schemes in its survey involved financial statement fraud. However, those cases clocked the greatest financial effect, with a median loss of $975,000. Compare that amount to the median losses for asset misappropriation ($125,000) and corruption ($200,000).

What makes financial statement fraud especially problematic is that the costs can quickly snowball out of control. For example, when an executive fudges the numbers to make a company appear more profitable, the company will likely incur greater liability for taxes or dividends.

Plus, it might be necessary to take on debt to make those payments, leading to higher interest costs. Or an acquisition of a healthy company might be pursued to hide the actual underperformance. In the end, more fraud may be necessary to pay for the original scam.

Common schemes

The ACFE defines financial statement fraud as “a scheme in which an employee intentionally causes a misstatement or omission of material information in the organization’s financial reports.” Common ploys include:

* Concealed liabilities,
* Fictitious revenues,
* Inflated asset valuations,
* Misleading disclosures, and
* Timing differences.

Revenue recognition is a particularly ripe area for financial statement fraud, especially as companies start to implement the new revenue recognition guidance for long-term contracts. Early revenue recognition can be accomplished through several avenues, including 1) keeping books open past the end of the accounting period, 2) delivering products early, 3) recording revenue before full performance of a contract, and 4) backdating sales agreements.

Preventive medicine

Victims of financial statement fraud often find their long-term survival severely threatened in a relatively short period of time. Hiring an outside forensic accounting specialist to evaluate internal controls can help identify red flags, ferret out ongoing schemes and deter would-be fraudsters. Contact us for more information.

© 2017

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What your nonprofit can learn from for-profit businesses

If your not-for-profit is “stuck” and you’re not sure how to move forward, consider adopting some for-profit business practices. The essential missions of businesses and nonprofits are different, but the ways to achieve them often are the same.

Make a plan

The strategic plan — a map of near- and long-term goals and how to reach them — lies at the core of most for-profit companies. If your nonprofit doesn’t have a strategic plan or has been lax about revising an existing one, make this a top priority.

Set objectives for several time periods, such as one year, five years and 10 years out, paying particular attention to each strategic goal’s return on investment. For example, consider the resources required to implement a new contact database relative to the time and money you’ll save in the future. Working through the financial implications of ideas can help you avoid the kind of initiatives that sound good in theory but are unlikely to provide returns.

Spend differently

Next, your annual budget should follow your strategic plan. For-profit businesses use budgets to support strategic priorities, putting greater resources behind higher priority projects.
Businesses also routinely carry debt, believing that it takes money to make money. Nonprofits typically do everything in their power to avoid operating deficits. Unfortunately, it’s possible to operate so lean that you no longer meet your mission. Building up your endowment, applying for a loan or even creating a for-profit subsidiary could provide you with the funds to grow.

Pay for experience

Most for-profit companies budget for experienced leadership. Although nonprofits typically can’t pay their executives as much as businesses do, you can ensure that compensation is competitive relative to other organizations.

Paying for experience is particularly critical when you’re embarking on major fundraising campaigns or looking to expand your program outreach. You may even want to consider candidates from the for-profit world, who might bring greater marketing and financial management expertise and new ideas to the table.

Take baby steps

Translating for-profit business practices to your nonprofit won’t necessarily be easy, so start with baby steps. If you need help, please contact us.

© 2017

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How can your business make the most of the cloud?

Like many companies, yours probably stores at least some of its business files, documents and information in “the cloud.” This is the widely used term referring to the seemingly infinite data storage capacity of the Internet.

Using the cloud generally means lower IT costs, because you don’t have to deploy a lot of expensive hardware and software on-site and it’s scalable — in other words, you can easily expand or diminish your data storage capabilities as necessary. Most cloud services also feature automatic backups and updates.

But these inherently great features don’t guarantee you’ll get a good return on investment. To make the most of the cloud, you’ll need to identify and follow some best practices. Here are two to consider.

A carefully vetted provider

Moving from on-premises, server-based data storage to cloud-based data storage requires a different mindset. You’ll be unable to physically look at and touch a server box and say, “That’s where my data is stored.”

This makes it critical to choose a cloud services provider you can trust and build a strong relationship with as a true business partner. Ask potential providers for the names of two or three of their clients you can speak with about issues such as level of security, responsiveness and technological sophistication.

Well-defined objectives

You need to pinpoint your recovery time objectives and recovery point objectives (that is, the most critical data points for your business) concerning the backup and recovery of your data in an emergency. Be sure you’ve clearly communicated these to your cloud services provider.
Your provider should be able to work with you on an individualized basis to ensure that your objectives will be met. You don’t want to find out during a crisis that you’ve lost mission-critical data.

Worth considering

If you haven’t ventured into the cloud yet, give it some consideration — these services are becoming increasingly common. And if you have, be sure you’re getting your money’s worth.

© 2016

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Do you need to file a 2016 gift tax return by April 18?

Last year you may have made significant gifts to your children, grandchildren or other heirs as part of your estate planning strategy. Or perhaps you just wanted to provide loved ones with some helpful financial support. Regardless of the reason for making a gift, it’s important to know under what circumstances you’re required to file a gift tax return.

Some transfers require a return even if you don’t owe tax. And sometimes it’s desirable to file a return even if it isn’t required.

When filing is required

Generally, you’ll need to file a gift tax return for 2016 if, during the tax year, you made gifts:

    That exceeded the $14,000-per-recipient gift tax annual exclusion (other than to your U.S. citizen spouse),

•    That exceeded the $148,000 annual exclusion for gifts to a noncitizen spouse,

•    That you wish to split with your spouse to take advantage of your combined $28,000 annual exclusions,

•    To a Section 529 college savings plan for your child, grandchild or other loved one and wish to accelerate up to five years’ worth of annual exclusions ($70,000) into 2016,

•    Of future interests — such as remainder interests in a trust — regardless of the amount, or

•    Of jointly held or community property.

When filing isn’t required

No return is required if your gifts for the year consist solely of annual exclusion gifts, present interest gifts to a U.S. citizen spouse, qualifying educational or medical expenses paid directly to a school or health care provider, and political or charitable contributions.

If you transferred hard-to-value property, such as artwork or interests in a family-owned business, consider filing a gift tax return even if you’re not required to. Adequate disclosure of the transfer in a return triggers the statute of limitations, generally preventing the IRS from challenging your valuation more than three years after you file.

Meeting the deadline

The gift tax return deadline is the same as the income tax filing deadline. For 2016 returns, it’s April 18, 2017 (or October 16 if you file for an extension). If you owe gift tax, the payment deadline is also April 18, regardless of whether you file for an extension.

Have questions about gift tax and the filing requirements? Contact us to learn more.

© 2017

 

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Helpful Articles Tax

Take small-business tax credits where credits are due

Tax credits reduce tax liability dollar-for-dollar, making them particularly valuable. Two available credits are especially for small businesses that provide certain employee benefits. And one of them might not be available after 2017.

1. Small-business health care credit

The Affordable Care Act (ACA) offers a credit to certain small employers that provide employees with health coverage. The maximum credit is 50% of group health coverage premiums paid by the employer, provided it contributes at least 50% of the total premium or of a benchmark premium.

For 2016, the full credit is available for employers with 10 or fewer full-time equivalent employees (FTEs) and average annual wages of $25,000 or less per employee. Partial credits are available on a sliding scale to businesses with fewer than 25 FTEs and average annual wages of less than $52,000.

To qualify for the credit, online enrollment in the Small Business Health Options Program (SHOP) generally is required. In addition, the credit can be claimed for only two years, and they must be consecutive. (Credits claimed before 2014 don’t count, however.)

If you meet the eligibility requirements but have been waiting to claim the credit until a future year when you think it might provide more savings, claiming the credit for 2016 may be a good idea. Why? It’s possible the credit will go away for 2018 because lawmakers in Washington are starting to take steps to repeal or replace the ACA.

Most likely any ACA repeal or replacement wouldn’t go into effect until 2018 (or possibly later). So if you claim the credit for 2016, you may also be able to claim it on your 2017 return next year (provided you again meet the eligibility requirements). That way, you could take full advantage of the credit while it’s available.

2. Retirement plan credit

Small employers (generally those with 100 or fewer employees) that create a retirement plan may be eligible for a $500 credit per year for three years. The credit is limited to 50% of qualified start-up costs.

Of course, you generally can deduct contributions you make to your employees’ accounts under the plan. And your employees enjoy the benefit of tax-advantaged retirement saving.

If you didn’t create a retirement plan in 2016, it might not be too late. Simplified Employee Pensions (SEPs) can be set up as late as the due date of your tax return, including extensions.

Maximize tax savings

Be aware that additional rules apply beyond what we’ve discussed here. We can help you determine whether you’re eligible for these credits. We can also advise you on what other credits you might be eligible for when you file your 2016 return so that you can maximize your tax savings.

© 2017

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Deduction for state and local sales tax benefits some, but not all, taxpayers

The break allowing taxpayers to take an itemized deduction for state and local sales taxes in lieu of state and local income taxes was made “permanent” a little over a year ago. This break can be valuable to those residing in states with no or low income taxes or who purchase major items, such as a car or boat.

Your 2016 tax return

How do you determine whether you can save more by deducting sales tax on your 2016 return? Compare your potential deduction for state and local income tax to your potential deduction for state and local sales tax.

Don’t worry — you don’t have to have receipts documenting all of the sales tax you actually paid during the year to take full advantage of the deduction. Your deduction can be determined by using an IRS sales tax calculator that will base the deduction on your income and the sales tax rates in your locale plus the tax you actually paid on certain major purchases (for which you will need substantiation).

2017 and beyond

If you’re considering making a large purchase in 2017, you shouldn’t necessarily count on the sales tax deduction being available on your 2017 return. When the PATH Act made the break “permanent” in late 2015, that just meant that there’s no scheduled expiration date for it. Congress could pass legislation to eliminate the break (or reduce its benefit) at any time.

Recent Republican proposals have included elimination of many itemized deductions, and the new President has proposed putting a cap on itemized deductions. Which proposals will make it into tax legislation in 2017 and when various provisions will be signed into law and go into effect is still uncertain.

Questions about the sales tax deduction or other breaks that might help you save taxes on your 2016 tax return? Or about the impact of possible tax law changes on your 2017 tax planning? Contact us — we can help you maximize your 2016 savings and effectively plan for 2017.

© 2017

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Should you set up trusts in a more “trust-friendly” state?

While it’s natural to set up trusts in the state where you live, you may be losing out on significant benefits available in more “trust-friendly” states. For example, some states:

• Don’t tax trust income,
• Authorize domestic asset protection trusts, which provide added protection against creditors’ claims,
• Permit silent trusts, under which beneficiaries need not be notified of their interests,
• Allow perpetual trusts, enabling grantors to establish “dynasty” trusts that benefit many generations to come,
• Have directed trust statutes, which make it possible to appoint an advisor or committee to direct the trustee with regard to certain matters, or
• Offer greater flexibility to draft trust provisions that delineate the trustee’s powers and duties.

To take advantage of these and other benefits, review your state’s trust laws and trust-related tax laws and consider whether another state’s laws would be more favorable.

It’s also important to review both states’ rules for determining a trust’s “residence” for tax and other purposes. Typically, states make this determination based on factors such as:

• The grantor’s home state,
• The location of the trust’s assets,
• The state where the trust is administered (that is, where the trustees reside or the trust’s records are kept), or
• The states where the trust’s beneficiaries reside.

Keep in mind that some states tax income derived from in-state sources even if earned by an out-of-state trust.

To enjoy the advantages of a trust-friendly state, establish the trust in that state and take steps to ensure that your choice of residence is respected (such as naming a trustee in the state and keeping the trust’s assets and records there). It may also be possible to move an existing trust from one state to another. We can help you determine if setting up trusts in another state would help you achieve your estate planning goals.

© 2017