Talking Shop Blog

The Internal Revenue Service has announced the 2012 cost-of-living adjustments (COLA) for qualified retirement plans, including 401(k) profit-sharing plans and Individual Retirement Accounts.

You can find the COLA information at http://www.irs.gov/retirement/article/0,,id=96461,00.html

The tax filing deadline for 2010 Form 1040s is a week from today. And we still have some clients that haven’t filed their returns yet.

Why?  They’re waiting for K-1’s.

Google “Waiting for K-1” and you get “About 4,170,000 results in (0.27 seconds).” 

I don’t think 4 million people are still waiting for a K-1.  But quite a few are.

In the 70s and 80s real estate limited partnerships were the rage. These days its hedge funds and master limited partnerships.

And that means late K-1’s and some unique tax return reporting.

I wonder how many investors are well versed in “Mark to Market Elections”, “Section 1256 Contracts and Straddles”, “Original Issue Discount, “DPGR Gross Receipts ” or “Oil, Gas & Geothermal Gross Income (AMT)”?

And then there are state filing requirements: “The Partnership operates in various states, some of which impose an income tax on a Partner’s share of income allocable to such state.”

“I have to file a return in how many states?!?”

Of course, just about all K-1’s say ‘Please consult your tax advisor.”

But if you’re doing your own returns, you may want to check out the IRS instructions on K-1 reporting at http://www.irs.gov/pub/irs-pdf/i1065sk1.pdf . From there, you’ll find references to a hundred other forms, publications and code sections.

To learn more about tax reporting for master limited partnerships, check out http://blogs.duganlopatka.com/general/2010/08/23/tax-reporting-for-master-limited-partnerships/ .

A week to go!

The proposed jobs bill includes a number of tax increases, including higher taxes on hedge fund managers through the so-called “carried interest” provisions.

A carried interest is an interest in a partnership received in exchange for services to the partnership.

The carried interest proposals were originally targeted at hedge fund managers. But the proposed legislation extends the provisions to profits interests in real estate and other types of investments.

Fund managers in hedge funds and private equity funds typically receive a 20% interest in the profits of the fund in exchange for managing the fund.

Say a fund has $100,000 in long term capital gains for the year. The manager’s 20% share, $20,000, is currently taxed at the 15% capital gain rate. 

The bill, if enacted, would tax that income at the higher ordinary income rates and the income would be subject to self employment tax as well.  Combine the two and the effective tax rate is close to 50%. And that’s before state income taxes.  

Maybe there’s a good argument for taxing a fund manager’s profits this way. Maybe not.

But we’ve got a problem with extending these provisions to rental and investment real estate ventures.

It’s common for a general partner to acquire a profits interest when putting together a real estate deal.

The general partner/developer is the one who takes the entrepreneurial risks associated with real estate ventures.

And the reward is a share in the potential “upside” of the deal.

Congress should treat “entrepreneurial capital” the same as other forms of “capital”, like money and property.

And that means capital gains rates, not ordinary income rates.

President Obama has formally submitted his jobs creation bill to Congress.

The bill, entitled the “American Jobs Act”, includes $250 billion in tax incentives and over $450 billion in tax hikes or “revenue raisers”.

Here are some highlights of the proposed legislation:

First-year 100% bonus depreciation would be extended through 2012.

The current 6.2% Social Security tax rate would be cut in half to 3.1% – for both employees and employers for calendar year 2012. The employer reduction would apply up to the first $50 million in wages. 

Employers would receive a new 6.2% tax credit on the first $50 million in increased payroll. This provision would apply to the last quarter of 2011 and calendar year 2012.

On the revenue side, the bill would limit the tax benefit of itemized deductions and tax exclusions to 28%.  This would apply to married couples with adjusted gross income over $250,000 and individuals with adjusted gross income over $200,000.

This provision amounts to a tax increase for taxpayers in the 33% and 35% tax bracket.

It’s noteworthy that the proposed tax cuts would be temporary – but the proposed tax hikes would be permanent.

Hmmm.

More tomorrow.

“Ever wonder why the IRS calls it Form 1040?

For every $50 you earn, you get $10 and they get $40.”

 -Jay Leno

Let’s look at Jay’s math. You earn $50, the IRS gets $40. That’s an 80% tax hit.

Guess what? Sometimes it really happens. Combine income taxes and estate taxes – and you may have an 80% tax problem.

It happens sometimes when a family business is transferred to the next generation through a sale of stock.

Say annual profits from a family business are $500,000. The “Gen 2” shareholders pay $200,000 in combined federal and state income taxes. That leaves $300,000 that goes to the parents for the purchase of stock.

Of course the parents pay capital gain taxes on the $300,000 sales proceeds. 

And then there can be estate and inheritance taxes down the road.

Add it all up – a triple tax cost that can reach 80%.

A taxable sale of a family business to the children usually produces the highest tax cost.

A transfer of stock using various trust techniques usually results in the lowest tax cost.

More tomorrow.

We posted this a year ago and it still holds true today -  with a couple of changes . . .

The NCAA tournament picks came out Sunday and March Madness starts this week.

Most people know that gambling winnings are taxable. You certainly know if you received an official Form W-2G, Certain Gambling Winnings.

The form has 14 boxes that are completed by the “Payer.” The Payer is the one who kept the money that you lost overall. There’s no box for gambling losses. You’re on your own there.

You can deduct gambling losses (up to your winnings) as an itemized deduction on Schedule A. Of course, in a tax audit you have the burden to prove how much you lost.

The State of Illinois taxes gambling winnings, but doesn’t allow a deduction for offsetting gambling losses. I once had a client who lost over $500,000 at the casinos one year. But he received W-2Gs totalling about $2 million.

So we filed his federal return with $2 million of winnings offset by $2 million of losses. He didn’t owe any federal tax.

But he couldn’t deduct the offsetting losses on his Illinois return. So he had to pay $60,000 in taxes to Illinois on the $500,000 he lost.  Ouch.

Talk about adding insult to injury.

You can find out more about gambling and taxes at the IRS website, http://www.irs.gov/taxtopics/tc419.html

And you can contact your Illinois state senator or representative to talk about those non deductible gambling losses, the recent 67% tax increase or whatever else is on your mind at http://www.ilga.gov/ .

Good luck in the tournament and those office pools. And keep good track of your winners and losers. You’ll need those records at tax time.