As the Apr. 15 deadline loomed for filing 1995 income tax returns, Business Week's guest on Apr. 2 was Denver CPA (and tax whiz) James C. Vonachen, to answer questions for last-minute filers.
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OnlineHost: Welcome to Business Week Online. Tax season is upon us, and our guest tonight is James C. Vonachen, partner in charge of the tax practice at the Denver office of accounting firm Clifton, Gunderson & Co. Jim's here to field your every question on tax matters. The moderator is Jack Dierdorff (JackBW) of BW Online.
JackBW: Good evening to all of you on AOL. Welcome back to BW Online, Jim Vonachen.
JVonachen: Thanks for inviting me back.
JackBW: Here's the opening question, as Apr. 15 looms.
Question: The countdown to Apr. 15 is here. What should panicked taxpayers do if they can't get everything done by then?
JackBW: To which GMan1983 in the audience adds a question about how he can get an extension.
JVonachen: Rule #1: Do not panic! Rule #2: Use the excuse, "My audit exposure is less if I extend my tax return." Rule #3: Despite rules #1 and #2, take your extension seriously. Take the time to estimate your income and expenses. Make sure the proper forms are filed. Rule #4: The extension is only good for the filing of the tax return, not for the payment of the tax. Interest and/or penalties will still be charged if the tax due is not paid on Apr. 15. Rule #5: If all else fails, leave the country. If you are outside the country on Apr. 15, your new due date for the tax return is June 15. You will still be charged interest back to Apr. 15 if you owe tax, but no late filing penalties will accrue. Note: No form needs to be filed to get this automatic extension.
JackBW: BUCK CODY in Pennsylvania has the next question.
Question: My company makes a 3% unilateral contribution to my 401(k) plan. Is there a penalty for me if I want to contribute to an IRA? If so, please describe the nature of the penalty. Is an additional contribution to an IRA a sound idea?
JVonachen: Depending on your income level, even if you are covered under an employer's retirement plan, you can make contributions into an IRA without penalty. The real question is whether or not you are entitled to a deduction for the contribution. For a married couple with less than $50,000 of adjusted gross income, a partial deduction is available. For a married couple with over $50,000 of adjusted gross income, no current deduction can be obtained. The fact that a contribution is nondeductible takes away from a major benefit of the IRA. You must consider other investment alternatives to determine if it is advantageous to make nondeductible contributions. Some other considerations will be your age and the amount of your other liquid assets that are available. I'm afraid there is no rule of thumb to give guidance in all cases.
JackBW: MDDorogi in Whitmore Lake, Mich., seems to be late to the party, Jim.
Question: I think I owe a penalty this year. I fail both conditions for avoiding a penalty, due to my own poor planning (oops). Is there any way I can reduce my 1995 taxable income (my wife and I already contribute to 401(k)-type plans)?
JVonachen: #1: Attempt to go over your records again to make sure that you haven't missed any deductions. Some commonly overlooked deductions are: noncash charitable contributions, SEP deductions (if you have self-employment income), sometimes business expenses can be overlooked. Other than that, it's best to get the return filed and pay what is owed.
JackBW: Train ride in Wantagh, N.Y., has a hardy perennial of a tax question for Jim Vonachen.
Question: Can you talk about the home office deduction? I have a full-time job but also do consulting work from home and made a decent profit from it.
JVonachen: Again, this is a common question. The home office deduction is a very difficult area in order for taxpayers to meet all the IRS requirements. For an employee, it has to be a condition of employment in order to be entitled to the deduction. For a self-employed person, the home office needs to be not only helpful and appropriate, but it also needs to be the place where the majority of your business is conducted. In the case of the self- employed person, even one day of personal use in the office will disqualify an entire year's deduction. In addition, the home office deduction for a person who owns their home can have adverse tax consequences when the home is sold in a future year. When you weigh the IRS exposure against the true benefit of the deduction, even in cases where you are truly entitled to the deduction, the risk of IRS audit may not warrant claiming the deduction.
JackBW: StevenLI (on Long Island) wonders if you have a hot line to Washington about tax changes.
Question: What do you think the long-term capital-gains tax will be in 1996?
JVonachen: Sorry, no hot line here! However, my best guess is to forget about a capital-gains tax break.
JackBW: Here's a conundrum from Sisu62 in Avon, Conn.
Question: I sold a house in 1994. Since my husband is in the military, we have four years to roll over the gain into another house. The problem is that we're getting a divorce. Will I owe capital gains in 1996 or 1998?
JVonachen: If the house was sold in 1994 and the gain was not rolled over, you will need to amend your 1994 tax return. If the house was owned jointly, then each spouse can roll over their half of the proceeds into a new home in order to avoid the tax. The key is that 1994 was the year of sale, and 1994 is the year that the tax will have to be paid, plus interest, if the proceeds are NOT rolled over.
JackBW: DonnaGil in Vermont is up next.
Question: Must the beneficiary of a life insurance policy declare it as income?
JVonachen: No. The beneficiary receives the proceeds tax-free. Any IRS reporting needs to be done by the estate of the decedent. This only happens if the gross estate exceeds $600,000.
JackBW: BLove10033 asks Jim Vonachen this question.
Question: I am a college student who pays for some of my own education. Can I deduct any portion of the savings bonds that I used to pay for my school?
JVonachen: Yes. If special educational bonds were purchased and you met certain income levels, you will not have to report the income when you cash in the bond.
JackBW: LTurner58 has a disaster follow-up.
Question: Are there special tax deductions for auto damage in a declared disaster area?
JVonachen: Nothing special other than the fact that you may be able to deduct the casualty loss in the previous year's return if you are in a disaster area. All of the other normal casualty loss rules apply.
JackBW: Su Z Q 95 wonders if you prefer any particular tax software.
Question: What tax preparation software do you recommend?
JVonachen: We've seen good results with TurboTax, but most of the software is fairly good. The main point to consider is garbage in, garbage out. You need to know what to enter into the program, as well as that certain items can be entered at different places on the tax return. Depending upon what place they are entered, you may get different tax results. The commercial programs are good for simple returns, and they will compute the correct tax. For complex returns, they are good if the preparer recognizes the issues and is able to input the correct documentation.
JackBW: BAZMAN69 takes us back to IRAs.
Question: I'm 69 years old, retired, and receiving a pension. My wife is 62, retired, and receiving a pension. My question is, can either of us or both contribute to our IRAs?
JVonachen: Absolutely. Until age 70 you can contribute to an IRA as long as you have earned income. Earned income can either be W-2 salary or earnings from self-employment. As long as you have this type of income, you can contribute to the IRA. If only you have income, but your spouse does not, you can still contribute to a nonworking-spouse IRA as long as the total contribution between both spouses does not exceed $2,250 and also does not exceed your earned income. Another possibility, even if you are over age 70 and have earned income, is to have a nonworking-spouse IRA. Thus, you can contribute up to $2,000 to your spouse's IRA as long as the spouse is under age 70 and you have earned income of at least $2,000. In the case of IRAs, the maximum contribution to any one account in any year is $2,000 unless you have a rollover from another retirement plan.
JackBW: DCarattin asks about an area that I think changed a few years ago.
Question: Are interest charges from credit cards deductible?
JVonachen: There has been no full deduction for credit-card interest since 1986, and no partial deduction since 1990.
JackBW: PolsonD has a question next.
Question: Can home improvements such as remodeling, which has increased the value of the property, be deducted?
JVonachen: Home improvements that are personal in nature cannot be deducted; however, they are included as additions to the cost basis of your home, and when you sell the house, you will get the benefit of these expenditures.
JackBW: Another question about home ownership, from BandW RIT.
Question: Is there still a credit for first-time home buyers?
JVonachen: No credits are available.
JackBW: Now, from STaylor515 in Newark, Del., a rather special case.
Question: Separated since late 1994 -- I have the kids, and their father gives child support per court agreement, but there's no other formal docmentation. I'm on disability and receive Social Security. The kids also get Social Security. Do we have to file joint? Do I claim the kids' Social Security?
JVonachen: As a separated spouse, you need to file as either married filing separately, married filed jointly, or head of household under certain conditions. If your spouse did not live with you at all in 1995, and you provided a home for the kids, you will qualify for head-of-household filing status. This status will provide you with a lower tax than married filing separately, but not as low as married filing jointly. Of course, if you file married filing jointly, you are both liable for any tax on the return or any problems that crop up in a later year relating back to the 1995 filing. The custodial spouse should be able to claim the children.
JackBW: Wom of mys in Schaumburg, Ill., has a special case, too, involving an IRA.
Question: Can the 10% penalty for early withdrawal from an IRA be waived if the withdrawals were for living expenses during an extended period of unemployment?
JVonachen: The 10% penalty cannot be waived because of extended unemployment. Thus, if the individual was under age 59 1/2, they will have to pay the extra 10% penalty, plus include the IRA distribution in their income.
JackBW: Next, a question from a lawyer, Jim -- Finst94815 in Pittsburgh.
Question: I'm a partner in a law firm. I incur expenses that are clearly business expenses but that my firm won't reimburse. Can I deduct these, and if so, how?
JVonachen: If you are an employee, your only deduction is to claim the expenses on Form 2106 as an employee business expense. These expenses are subject to a 2%-of-gross-income floor. By this I mean that when combined with your other miscellaneous itemized deductions, the first 2% of adjusted gross income must be deducted from your total expenses, and only the excess counts as a deduction. If you are in a partnership, it is possible to deduct these expenses off Schedule E and avoid filing a Form 2106 and also avoid the 2% floor limitation. In order to be able to deduct these expenses as a partner, your partnership agreement or similar document must state that each partner is responsible for paying some expenses outside of the partnership. As long as you have that agreement, these items can be deducted directly against gross partnership income. A side benefit is that these deductions will also reduce your net income from self-employment, and thus you will be paying less self-employment taxes by claiming the deductions.
JackBW: TAG141 doesn't seem to have a very generous employer.
Question: If you use your car for a business deduction and your employer allows you 10¢ a mile, can you claim the difference that the IRS allows?
JVonachen: Yes -- but only as an employee business expense using Form 2106 and computing the 2% floor that we just talked about. In this case, you would report the 10¢ per mile as income and then claim the 30¢ that is allowable for 1995 tax returns.
JackBW: TATTY28 brings up taxation of Social Security.
Question: I am a self-employed real estate agent who is also receiving Social Security. Would it be a good idea for me to incorporate to avoid taxation of my Social Security?
JVonachen: Not a bad idea. However, the Social Security people look at the total number of hours that you are working as well as your W-2 or compensation. They will look through a corporation in which you are working and artificially holding down your salary. By incorporating, you may limit your Social Security taxes, but you may also have your benefits taken away. This is a strategy that needs a great deal of caution before you implement it.
JackBW: TinaBoss in Winston-Salem, N.C., is up next.
Question: I am considering withdrawing some money from my 401(k) to cover a one-time expense that I am not able to save for otherwise. How will the gain be treated, and what can I do as an employee to reduce the capital gain?
JVonachen: First off, there is no capital gain, there is only ordinary income. Secondly, your employer's plan must allow for hardship distributions if you want to receive the funds without quitting your job. If the plan allows for distributions and you need the funds, the best you would hope for would be to keep your income as low as possible in the year of distribution and push as many deductions as you can into that year.
JackBW: That's it for tonight. Thanks for all the excellent questions, and apologies to those whose questions we didn't have time for. Another event follows us here in the Odeon. Thanks so much, Jim Vonachen, for your trenchant advice. And good luck to everyone with the IRS!
Transcripts of this and all BW Online conferences are available soon after the event. Look under Talk & Conferences on the BW Online opening screen. Thanks again and goodnight.
Copyright 1996 by The McGraw-Hill Companies, Inc. All rights reserved.
