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Taxing Social Security Benefits
October 15, 2007, Kathleen Casey-Kirschling
became the first Baby Boomer to officially apply (online at www.socialsecurity.gov)
for Social Security retirement benefits. Ms. Casey-Kirschling was
born one second after midnight on January I, 1946, and is eligible for
benefits in January 2008. Over the next two decades, nearly 80 million
Americans will become eligible for benefits, more than 10,000 per day.
With this in mind, we thought it would be helpful to discuss some of the
federal tax aspects related to receiving benefits.
Individuals
may have to pay federal income taxes on up to 85% of their benefits. Inclusion
within taxable income can occur if you have substantial income from wages,
self-employment, interest, dividends, and other taxable income, in addition
to your benefits. However, no one pays federal income tax on more than
85% of his or her benefits.
The amount of your benefits included in federal
taxable income depends on your provisional income. Provisional
income (PI) is generally your adjusted gross income (AGI) plus nontaxable
interest, one-half of your Social Security benefits, and some other AGI
add-backs. If you file as an individual, head of household,
or a qualifying widow or widower, and your PI is between $25,000
and $34,000, you may pay federal income tax on up to 50% of your benefits.
If your PI is more than $34,000, then up to 85% of your benefits
may be taxable.
If
you are married and file a joint return and you and your spouse have combined
PI of between $32,000 and $44,000, you may pay federal income tax
on up to 50% of your benefits. If your PI is more than $44,000,
then up to 85% of your benefits may be taxable. If you are married and
file a separate return, you will generally pay taxes on your benefits.
Social Security recipients
can have federal income tax withheld from their benefit payments. Withholding
is voluntary and can be initiated at 7%, 10%, 15%, or 25% of your monthly
benefits.
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Tax Calendar
January
15 - Individual taxpayers' final 2007 estimated tax payment is due
unless Form 1040 is filed by January 31,2008, and any tax due is paid
with the return.
January
31 - Most employers must file Form 941 (Employer's Quarterly Federal
Tax Return) to report Medicare, Social Security, and income taxes
withheld in the fourth quarter of 2007. (If your tax liability is less
than $2,500, you can pay it in full with a timely filed return.) If you
deposited the tax for the quarter in full and on time, you have until
February 11 to file the return. Small employers who have been notified
by the IRS should file Form 944 (Employer's Annual Federal Tax Return).
- Give your employees their copies
of Form W-2 for 2007. If an employee agreed to receive Form W-2 electronically,
have it posted on the website and notify the employee.
-
Give annual information statements to recipients of certain payments you
made during 2007. You can use the appropriate version of Form 1099 or
other information return. Form 1099 can be filed electronically with the
consent of the recipient.
-
File Form 940 [Employer's Annual Federal Unemployment (FUTA) Tax Return]
for 2007. If your undeposited tax is $500 or less, you can either
pay it with your return or deposit it. If it is more than $500, you must
deposit it. However, if you deposited the tax for the year in full and
on time, you have until February 11 to file the return.
- File Form 945 (Annual Return of Withheld Federal Income Tax) for
2007 to report income tax withheld on all nonpayroll items, including
backup withholding and withholding on pensions, annuities, IRAs, etc.
If your tax liability is less than $2,500, you can pay it in full with
a timely filed return. If you deposited the tax for the year in full and
on time, you have until February 11 to file the return.
February 28 - The government's
copy of Form 1099 series returns (along with the appropriate transmittal
form) should be sent in by today. However, if these forms will be filed
electronically, the due date is extended to March 31.
February 29 - The
government's copy of Form W-2 series returns (along with the appropriate
transmittal form) should be sent in by today. However, if these forms
will be filed electronically, the due date is extended to March 31.
March
17 - 2007 income tax returns must be filed or extended for calendar-year
corporations. If the return is not extended, this is also the last day
for calendar-year corporations to make 2007 contributions to pension and
profit-sharing plans.
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Employer-provided Cell Phones
In a recent information letter
addressed to U.S. Representative Dennis Moore, an IRS Branch Chief discussed
the proper tax treatment of employer-provided cell phones. The letter
states that an employer can exclude the value of an employee' s use of
an employer-provided cell phone from the employee's gross income, if the
employer has some method of requiring the
employee to keep records that distinguish business from personal phone
charges. The Internal Revenue Code requires that the employee keep a record
of each call and its business purpose. If the employee receives a monthly,
itemized cell phone statement, he or she should use the statement to identify
each call as personal or business.
If the employee uses the cell phone exclusively for business, the value of all use is excluded from his or her income as a working condition fringe benefit. However, the employer must include the value of any personal usage in the employee's wages. Personal usage includes individual personal calls and a prorata share of monthly service charges.
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Teaching Children about Money
How to tie their shoes and tell time are important skills
parents teach their children. But don't forget the important skill of
learning how to handle money. If you don't teach them, they'll be left
to the experts on the schoolyard or (worse yet) Madison Avenue.
No
matter what age your children are, you can teach them important money
management techniques that will serve them well their entire lives.
You
may want to begin by looking back at how you learned about finances and
who taught you. What are some principles you had difficulty understanding,
and what are struggles you've had in handling your own
finances? What are some things you wish your parents had taught you about
money? Ultimately, your kids may be more grateful for the financial lessons
you taught them than the inheritance you leave them.
Remember that financial lessons should be age appropriate. Different lessons
can be taught at different ages, but the financial principles remain the
same. Money is important, must be earned, should be conserved, and may
be shared. Parents should make careful decisions about basics such as
allowance, expenses, bank accounts, etc. These decisions should be made
collectively, communicated clearly, and administered equitably.
Allowance.
Even young children, four or
five years old, can begin to learn the value of money. An allowance is
money that is not earned, but bestowed simply as a privilege for being
a part of the family. The amount varies with each family. A small weekly
allowance deposited into a piggy bank can be an important tool. However,
the money shouldn't just disappear into the piggy bank, never to be seen
again. Occasionally, it should be counted and eventually spent on a special
item or activity. This can instill the value of saving and the excitement
of purchasing a desired treat.
Chores.
Additional money can be obtained
by doing extra tasks around the house (above and beyond what is normally
expected, which varies by family). This can be used to develop a work
ethic in the child and to supplement the allowance so the child can purchase
(with his or her own money) items that the parents don't want to buy.
Eventually, learning to do chores may lead to a part-time job so your
child can continue to learn the value of hard work and how to earn extra
money for special purchases.
Bank
Accounts. At some point, it
will be time to take the piggy bank to the local bank and open a savings
account. Here's an opportunity to teach your kids that a bank is a great
place to keep your money safe from impulse purchases. Perhaps, if your
children are fortunate enough to have their savings grow rapidly, some
of it can be siphoned off into a mutual fund, where new lessons can be
learned. High school may be a good time to convert that savings account
into a checking account (perhaps with a debit card). Balancing a checkbook
is a skill they will need as they grow into adulthood.
Credit
Cards. This is the scary one.
But it may also be the most important one. Many adults have gotten in
serious trouble with credit card debt. You owe it to your children to
teach them how to use credit cards responsibly. They need to realize that
it's not "free money." The bill will come in, and it better
be paid in full and on time. They need to learn this lesson while they're
still living at home, so the best time to obtain a credit card may be
when they get their drivers license.
Money management is an
important skill to pass on to your children. Call us if we can help you
with this critical task.
Planning for C Corporation Distributions
Historically, dividend treatment has been something to
avoid because of the double taxation issue. Essentially, your C
corporation pays income taxes on the earnings
that generate the dividends, then you also pay income taxes when the earnings
are paid out to you. This harsh effect has been softened somewhat by the
lowering of the maximum dividend tax rate to 15%.
A traditional planning strategy for a closely held C corporation has been
to calibrate shareholder-employee salary and bonus payments to reduce
the corporation's annual taxable income to $50,000, thereby taking advantage
of the entire 15% corporate tax bracket. Sometimes, however, paying the
remaining $42,500 ($50,000 x 85%) as a dividend and intentionally arranging
for you to be double-taxed can be beneficial. For example, a dividend
paid by your corporation begins to become tax-efficient compared to a
deductible payment when your income tax rate is 28% or higher, and your
corporation's tax rate does not exceed 15%. As long as the corporation's
top rate is 15%, dividends become relatively more tax-efficient
as your personal tax rate increases to 33% and 35%.
Your
corporation may have built up substantial earnings and profits over the
years. A profitable corporation becomes exposed to the accumulated earnings
penalty tax when it accumulates earnings in excess of reasonable business
needs and does not pay dividends. Right now, the accumulated earnings
tax rate is only 15%. However, after 2010, the accumulated earnings tax
rate will return to the maximum individual federal rate on ordinary income,
currently 35%. Therefore, now is a great time to payout dividends and
reduce your corporation's exposure to the accumulated earnings penalty
tax.
Another
way for you to tap the earnings that have built up in your corporation
is to arrange for the corporation to distribute cash' and/or property
for your stock. This is called a stock redemption. A stock redemption
may be treated as a sale in some cases, which qualifies for capital gain
or loss treatment. Sale treatment would be preferred if you have a substantial
basis in your stock. Sale treatment is a good thing because the maximum
tax rate on long-term capital gains is currently only 15%.
With careful
planning, we can determine whether dividend treatment or a stock redemption
is best for you. Please give us a call if you have questions or require
additional information.
The
Tax and Business Alert is designed to provide accurate information regarding
the subject matter covered. However, before completing any significant
transactions based on the information contained herein, please contact
us for advice on how the information applies in your specific situation.
Tax and Business Alert is a trademark used herein under license.
© Copyright 2007