Late Tax Returns Common For The Wealthy

Arden Dale for the Wall St. Journal writes: Many wealthy people routinely seek tax extensions before the April 15 deadline arrives, but that doesn't mean their financial advisers and accountants get a vacation.  The often complex business dealings and investments of well-heeled investors can take longer to sort out. With extensions in hand, their returns to the Internal Revenue Service are sometimes not filed until summer or even fall.

Their advisers, meanwhile, have to keep an eye on that far horizon. And because delaying a return doesn't mean one should delay paying taxes, they must estimate now what the real tax bill will be later and make sure a payment is made. This can mean figuring out, say, whether a private equity investment is likely to report a $1 million loss or a $1 million gain later in the year.

Advisers may also need to figure out how to keep a client liquid enough to pay that estimated tax.

Some wealthy taxpayers know that filing extensions and estimated payments are par for the course. Others need a heads up.

"Our primary responsibility is to make sure people know they won't be filing right away," said Scott Barbee, a senior adviser in Wealth Advisory Services at Truepoint Inc., a fee-only firm in Cincinnati, Ohio, with about $1.2 billion under management.

Ninety percent of the clients in Alfred Peguero's practice regularly file for extensions on their tax return. Peguero is a partner in the San Francisco office of accounting firm PricewaterhouseCooper's Private Company Services group.

The group works with high-net-worth taxpayers on wealth management, and financial and tax planning. Managing the timing of extension requests and estimated payments is "like a Swiss clock," said Mr. Peguero.

The primary culprit for the delays is IRS Form K-1.

Trusts in an estate, or investments in hedge funds, private equity or partnerships are often slow to issue K-1s, which go to the IRS as part of a tax return. While some do arrive in investors' mailboxes as early as February, others may get there as late as September. Mr. Peguero has seen investors with as many as 100 K-1s.

Lisa Featherngill, managing director of planning at Abbot Downing, the family office practice of Wells Fargo, said she always mentions the risk of a tax filing hassle when talking about hedge funds and other complex investments with clients.

"I've seen resistance recently to enter those types of investments because of the fact that they get their K-1s so late," said Ms. Featherngill. Abbot Downing, based in Minneapolis, Minn., has about $32 billion in client assets.

A client of Ms. Featherngill who already owns hedge funds recently balked at adding more, she said, because of the tax headaches.

Mr. Barbee, of Truepoint, said his firm always notes that private equity investments it recommends to certain clients will mean having to get a tax extension.

Taxpayers use Form 4868 to ask for an extension electronically or on paper. Generally, the IRS can't extend the due date of a return for more than six months.

One client of Mr. Peguero underestimated income from a building before he got a final report on the investment. Ultimately, the man had around $300,000 more in income than expected, and owed around $20,000 more than he had paid in tax. He was able to avoid penalties by showing tax authorities emails to prove he made a good faith effort to report his income accurately.

Two Education Credits Help Pay Higher Education Costs

The American Opportunity Credit and the Lifetime Learning Credit may help you pay for the costs of higher education. If you pay tuition and fees for yourself, your spouse or your dependent you may qualify for these credits.  Here are some facts the IRS wants you to know about these important credits:

The American Opportunity Credit

• The AOTC is worth up to $2,500 per eligible student.
• The credit is available for the first four years of higher education at an eligible college, university or vocational school.
• The credit lowers your taxes and is partially refundable. This means you could get a refund of up to $1,000 even if you owe zero tax.
• An eligible student must be working toward a degree, certificate or other recognized credential.
• The student must be enrolled at least half time for at least one academic period that began during the year.
• You generally can claim the costs of tuition and required fees, books and other required course materials. Other expenses, such as room and board, do not qualify.

The Lifetime Learning Credit

• The credit is worth up to $2,000 per tax return per year. The yearly limit applies no matter how many students are eligible for the credit.
• The credit is nonrefundable. This means the amount you can claim is limited to the amount of tax you owe.
• The credit is available for all years of higher education. This includes courses taken to acquire or improve job skills.
• You can claim the costs of tuition and fees required for enrollment or attendance. This includes amounts you were required to pay to the institution for course-related books, supplies and equipment.

You cannot claim either of these credits if someone else claims you as a dependent on his or her tax return. Both credits are subject to income limitations and may be reduced or eliminated depending on your income.

Keep in mind that you can’t claim both credits for the same student in the same year. You may not claim both credits for the same expense. Parents or students claiming either credit should receive a Form 1098-T, Tuition Statement, from their educational institution. You should make sure it is complete and correct.

Find out more details about these credits and other college tax benefits in Publication 970, Tax Benefits for Education. You can get the booklet at IRS.gov or by calling 800-TAX-FORM (800-829-3676).

Additional IRS Resources:

• Publication 970, Tax Benefits for Education
• Form 8863, Education Credits (American Opportunity and Lifetime Learning Credits)

UBS Highlights Top TAX-FREE Closed-End Municipal Bond Funds to Own (NUV, NXR, NXQ, NCA, NNY, UBS)

247WallSt. writes: The great debate over the budget and reducing the gigantic U.S. deficit continues to dominate the network, cable, print and Internet news outlets. The Democrat-controlled Senate passed a budget for the first time in four years. It immediately called for $100 billion in infrastructure spending. A subject we have covered in great detail, and UBS offered a tie into the infrastructure sector.

To help pay for these new budget commitments, the Senate is again looking to raise new revenues through tax hikes. This game plan does not sit well with the Republican-controlled House. They not only are unwilling to raise tax rates again, they are unwilling to eliminate additional so-called loopholes at this time. One of those loopholes is the tax-free status of municipal bonds.

One of the best way for investors to own a basket of municipal bonds is through closed-end funds. Not only do they provide diversity by owning large portfolios of different bonds, they generally pay investors tax-free income on a monthly basis. The fixed income team at UBS A.G. (NYSE: UBS) has scoured the municipal fund universe, and have five top names from closed-end fund giant Nuveen rated as funds to buy.

UBS has screened for nonleveraged funds that are trading at or below their net asset value (NAV). These are the closed-end funds to buy.

Nuveen Muni Value Fund (NYSE: NUV) is trading at a slight discount to its $10.31 NAV, and this fund pays an annual dividend of $0.44. This translates to a current 4.35% tax-free yield paid to investors monthly.

The Nuveen Select Tax-Free Income Portfolio 3 (NYSE: NXR) makes the UBS list. Trading at a solid 3% discount to its $14.94 NAV, the fund pays a yearly $0.63 dividend. This provides investors a 4.37% tax-free yield paid monthly.

Nuveen Select Tax-Free Income Portfolio 2 (NYSE: NXQ) is also on board. It trades at close to a 3% discount from its listed $14.37 NAV, and investors are paid a $0.63 annual dividend. This equals a solid 4.52% tax-free yield also paid monthly.

For investors living in California and looking to avoid federal and state income taxes, the UBS team recommends the Nuveen California Muni Value Fund (NYSE: NCA). It trades at a 2.5% discount to the funds $10.38 NAV. Investors receive a $0.47 annually, which translates to a 4.63% tax-free monthly dividend for investors. When California state income tax is figured in, the tax-exempt percentage may be even higher for investors if they are residents of that state.

Investors in the state of New York may want to look at the Nuveen New York Municipal Value Fund (NYSE: NNY). It trades at a very slight discount to the funds $10.26 NAV, and investors are paid a $0.40 annual dividend. This equals a 3.879% annualized yield. Again, taking into consideration state and local New York taxes, the tax-free return may be considerably higher.

There are also two key municipal bond exchange-traded funds (ETFs), although these are presented as alternatives to the closed-end funds, as many investors have turned more to ETFs over the old closed-end fund structure. One is the iShares S&P National AMT-Free Muni Bond (NYSEMKT: MUB), with a 2.83% yield before adjusting for after-tax equivalents. It trades about 250,000 shares per day. At $110.17, it has a 52-week range of $107.95 to $114.52. Another muni-ETF is the PIMCO Intermediate Municipal Bond ETF (NYSEMKT: MUNI), with about a 2.14% yield before adjusting for the tax basis. Unfortunately it trades only about 30,000 shares per day. It has also slid with the muni market, as the price of $54.12 compares to a 52-week range of $53.59 to $57.47. The iShares version has been around since 2007, but the PIMCO version is still very new.

Overly zealous politicians may again try to remove the tax-free status of municipal bonds. At some point they may even achieve that goal on the super wealthy — say, people making more than $5 million per year. However, this is a very sore subject with states, counties and municipalities, as any change in tax status may raise their borrowing costs. With many states and cities struggling to pay their bills, this change does not look imminent.

DOMA's Tax Hassles for Same-Sex Couples

Roberton Williams, Contributor for Forbes writes:  The annual income tax season is no fun for any of us but it can be a lot worse for same-sex couples in California, Nevada, and Washington. Those three states follow community property law and recognize either same-sex marriages or domestic partnerships. The combination makes tax filing an even bigger hassle than the rest of us face. 

Because the Defense of Marriage Act (DOMA) denies federal recognition of those relationships, the IRS applies special rules to same-sex couples in the three states, rules that don’t apply to couples—same- or opposite-sex—in other states. Those rules complicate tax filing and can result in higher (or lower) income and payroll tax bills.

Community property law generally requires that married couples split income evenly between spouses. That rule also applies to domestic partners in the three community property states that recognize them.

Splitting income makes little difference for opposite-sex married couples but creates tax issues for same-sex partners because of DOMA. Here are just a few of the problems that the IRS has explained in various publications.

• Same-sex couples with children may or may not be allowed to file as heads of household. The issue revolves around the requirement that a head of household provide more than half the support for a dependent child. Because spending out of community property income comes equally from both partners, neither provides more than half the support, so neither can claim the dependent. Only if some support comes from non-community property may one partner file as head of household.
• Domestic partners in community property states must split the income from a business operated by one partner, even if the other partner has no involvement. In contrast, in the case of opposite-sex couples, earnings from a business are attributed only to a spouse who is actively involved in the business. Further, each domestic partner must pay self-employment tax on her half of business earnings, a situation from which a special provision protects opposite-sex couples. As a result, same-sex couples could pay as much as double the payroll tax that finances Social Security that an opposite-sex couple would pay.
• The IRS applies community property laws inconsistently with regard to tax credits. For example, the earned income credit, the dependent care credit, and the refundable portion of the child tax credit all ignore community property laws in determining a domestic partner’s earnings but split all income in measuring adjusted gross income.

Same-sex couples may also benefit from being denied joint filing status. A person who adopts her same-sex partner’s child may claim the adoption credit, a benefit not available to opposite-sex spouses. And as I explained yesterday, being denied joint filing status protects same-sex partners with similar incomes from incurring marriage penalties.
Taxpayer Advocate Nina Olson has pointed out additional problems for same-sex couples caused not by tax rules but rather by IRS procedures. For example, domestic partners in community property states must split both earnings and the income tax withheld on those earnings. But the IRS has rejected returns filed electronically because its software failed to allocate withheld taxes correctly between partners.

The IRS appears to have first offered guidance for same-sex couples in 2010, three years after California granted community property rights to domestic partners and shorter periods after similar action in Nevada and Washington. At that point, the IRS gave domestic partners the option of filing amended returns reflecting community property laws but did not require them to file new returns. Affected couples could recompute their taxes and file new returns, but in a final kicker, a partner owing more tax would have to pay interest on the underpayment (offset, at least in part, by interest paid on the refund presumably going to the other partner). At least the IRS waived penalties for underpayment.

Finally, the interaction between the federal income tax and California’s tax complicates tax filing for same-sex couples. The state’s tax return requires a couple to enter adjusted gross income from their joint federal return, even though they cannot file that return with the federal government. That means such a couple must prepare three federal returns—one joint for their state taxes and two individual to file with the feds—plus a state return.
Same-sex couples in Nevada and Washington are luckier—neither state imposes an income tax.

12 Tax Audit Red Flags To Avoid Catching The Attention Of The IRS, Beware Of These Tax Audit Red Flags.

CNN Money writes:  12 tax audit red flags - To avoid catching the attention of the IRS, beware of these tax audit red flags.

You have foreign assets
Stashing money overseas? Then you're probably well aware that the IRS has been ramping up its efforts to rein in offshore accounts.
Launched in 2009, the agency's voluntary disclosure program has already raked in more than $5 billion in back taxes, interest and penalties from tax cheats for illegally hiding assets in offshore accounts. 

Taxpayers are asked to check a box on Schedule B if they have an ownership interest in foreign accounts. If they then fail to provide information about those assets, it will undoubtedly trigger an audit, said Mark Luscombe, principal analyst at tax research firm CCH.
Indicating on your return that you do business in foreign countries or take many trips abroad for work could also raise eyebrows if no foreign assets are reported.  And the penalties for hiding offshore accounts are huge, including a fine of $100,000 or 50% of the balance -- whichever amount is greater -- for accounts that are willfully undisclosed. 

Your ex wants revenge
Following messy divorces, many ex-spouses will go to great lengths to get revenge -- some will have even try to wreak havoc on your reputation by contacting the IRS.
John Lieberman, a CPA at Perelson Weiner LLP, said he has heard of people telling the IRS that their ex-spouse laundered money, committed serious financial crimes, underreported income, even owned a brothel. 

"[Ex]-spouses love writing letters to the IRS," said Lieberman.
It's not just the ex-wife or husband you have to watch out for. Lieberman said he worked on one case where the mother-in-law told the IRS that her ex-son-in-law was a money launderer.
Sometimes the claims are completely made up, while others are legitimate. And while some people write in anonymously, others divulge their names -- which is required in order to claim a whistleblower reward of 15% to 30% of any extra money collected as a result of their tip. 

Your return has too many zeroes

While rounding numbers on your tax return to the nearest dollar is okay, rounding to the nearest thousand is not -- especially when itemizing deductions like business expenses, unreimbursed employee expenses and job hunting costs.
If you submit figures like $5,000 in auto costs, $2,000 in gas mileage and $4,000 in lodging, it may look like you pulled those numbers out of thin air or inflated them by rounding -- since it's unlikely that every single expense was a perfect multiple of $1,000. "Having a return with a lot of zeroes on it may be a cause for a return to be pulled," said Lieberman. 

You have a home office
Just because you do some work on your couch while watching TV doesn't mean it counts as a home office. 

After years of watching people abuse the home-office deduction, the IRS is on the look-out. In order to avoid being scrutinized, make sure you only claim reasonable expenses -- and only those that directly apply to the part of the home used as an office.
Remember: The credit can only be claimed if the home office is your primary place of business and is used exclusively for work. People get into trouble when the IRS suspects they are mixing personal costs with their business costs.

But if you have a legitimate home office, don't be afraid to claim it.
"Taxpayers entitled to these deductions should still claim them -- just be sure to have documentation to support the claimed expenses, avoid understating income and understand and comply with the home office requirements," said Luscombe. 

You forgot some income 
For people who earn money from various places, remembering to report every single cent can be difficult. But 'I forgot' isn't a good enough excuse for the IRS. 

For any miscellaneous income over $600 you received throughout the year, the company you worked for should send you a Form 1099. If you don't receive it for some reason -- it was mistakenly sent to a previous address, for instance -- you can be sure that the IRS will still get it.
You can either request the missing form from the employer or simply report the income without the form. This is why it helps to track your income throughout the year. 

Of course, some people earn money that may not get reported on 1099s -- like side money made giving people haircuts. Even if the IRS doesn't know about it, you must report this income as well or you risk the agency finding out and nailing you for tax evasion.
"Some people have a tendency to forget when they got a few checks here and there, but for some people it's willful," said Lieberman.

You claim fishy deductions
Sometimes claiming a tax deduction you know is a stretch just isn't worth the risk of an audit.
One of the most common gambles: Writing off a swimming pool for medical reasons, said John Lieberman, CPA at Perelson Weiner LLP. 

"Just because your back hurts doesn't make your pool deductible," he said.
To qualify, you must be able to prove that you purchased the pool solely to help with the treatment of a verifiable medical condition and this remains its primary purpose. If you don't have a doctor's prescription requiring the use of a pool or if you have easy access to a public pool, the deduction likely won't be allowed and it may lead the IRS to take another look at the rest of your return as well.

A Playboy magazine subscription for a doctor's office, a hip replacement for a dog and pole dancing classes are some other bizarre tax write-offs people have unsuccessfully tried to claim. That said, crazy attempts can occasionally pay off. One taxpayer successfully deducted the cost of caring for the carrier pigeon that he used to communicate with his business partner. 

You're rich
Not only do high-income taxpayers have more complicated returns, but they bring in much more revenue for the IRS with each mistake they make.
While only 1% of the overall population gets audited, the odds jump to 21% for taxpayers with income over $5 million and to 30% for those earning $10 million or more, according to the most recent statistics from the IRS. 

"It's not that higher income taxpayers cheat more, it's just that you have a lot more going on on a high-income return," said Betsey Buckingham, an enrolled agent at accounting firm David C. Murray & Company. "Most of the high-income people I've [assisted] are involved in charities or very active in their own business."
Even if you're not rich but live in a wealthy neighborhood, your return could raise questions about how you can afford to live there -- especially if you report surprisingly low income or a big business loss.  "They notice if you don't have an income that closely matches the kind of lifestyle you live," said Buckingham.

You say the wrong things 

Watch what you say and who you say it to. Even if you're joking, you never know when a friend or neighbor will decide to rat on you. Talking with the press about personal or business information or making a public statement that doesn't match the information you provide to the IRS can also get you in trouble.  If a newspaper publishes a profile of your business in which you gloat about surging profits but you then post big losses on your tax returns, the IRS may start digging into your file. 
 
Celebrities have to be extra cautious. The New York State Department of Taxation went after baseball player Derek Jeter for state income tax, citing public statements he made "professing his love for New York" as part of its argument, according to legal documents from the state agency. That gave the agency enough of a reason to allege the baseball star was a resident of New York (not Florida, as he claimed), said Lieberman.
"Be careful what you say, if even an athlete who says his heart is in New York can all of a sudden get a New York State tax audit," said Lieberman. 

You do a lot of 'work-related' driving

With gas prices so high, who wouldn't want to write off all of their driving costs? But unfortunately, you can only deduct gas costs if the driving you did was for business purposes.
Buckingham had a client who owned a catering company and claimed every single trip to the grocery store as a business expense, even when some of those trips were to pick up her own groceries. Those driving costs really added up -- to the point where they created a loss for the business (on paper) since it was making so little income.  So Buckingham and the client had to go through the grocery receipts and separate the personal shopping from the business shopping and claim the gas costs accordingly.

You exaggerate donations 

Even good deeds can spark suspicion at the IRS.  If you report extremely high charitable contributions -- especially relative to your income -- make sure you have the proof to back it up.  Receipts for cash donations of more than $250 are required in the event the IRS comes knocking.  Donating items gets a little trickier, because it's common for people to think the items are worth a lot more than someone will actually pay for them. So it's important to be reasonable with your valuations.

"Unless it's something brand new and still has tags, there's some reduction in price," said Buckingham.  Goodwill and Salvation Army even have lists that help you assign values to certain items when donating them. If you donate something bigger, like a car or a boat, the charity will give you a receipt stating the ultimate auction or sale price, she said. 

You own a money-losing business
If you own a business that is reporting losses year after year, the IRS may grow suspicious that it's actually a hobby.  "There's a rule-of-thumb saying you must have a profit in two [out] of five years -- if you don't have a profit they're going to look at it as a hobby," said Buckingham. "You can rebut that presumption by showing that maybe what you're doing is increasing the value of assets but not necessarily the profit."

One example is a business like a garden nursery, where you have to spend a lot of money growing trees and plants but won't get a real return on that investment until they are grown, she said. To fend off the IRS, make sure to keep diligent financial records and do little things like have business cards and company letterhead. 

Sometimes, though, it's beyond your control. One of Buckingham's clients, an ice cream store owner, was audited two years in a row after reporting losses for both years. The IRS agent said the agency couldn't figure out how the client was living day-to-day if her primary business was losing so much money. 

What they didn't realize was that she had refinanced her mortgage and was living off of that. Both audits resulted in no changes to her refunds, and the audits then stopped. 

 

You have a shady tax preparer

If your tax preparer tries to convince you to claim deductions that sound too good to be true or to report income that doesn't line up with what you would have reported, watch out.
You want a preparer that will get you the best refund possible -- but not if it means breaking the law. 

You should also be suspicious if the preparer doesn't ask for documentation like receipts or for expenses or deductions you're claiming.
For example, if they write down their own value for the bag of clothes you told them you gave to Goodwill or estimate that you spent $2,000 on home office furniture without going through everything with you, that's a bad sign.

"A preparer's job is not to suggest a deduction," said Buckingham. "Certainly if [the taxpayer] had a deduction last year, a preparer should ask whether they are still doing this activity, but if a taxpayer says they are, the preparer needs to ask for something that would substantiate it."
The IRS also recommends avoiding tax preparers who calculate their fees as a portion of a taxpayer's refund or promise taxpayers unattainable refunds.

A CPA Reveals the 10 Biggest Tax Mistakes People Make

My Particular Utterance writes: 1040, 1040A, 1040EZ, Schedule C, Schedule B, 1099, W-2…doing taxes is like trying to speak a foreign language that you've never taken a course in. Given how complicated the tax code is, it's not surprising that people mess up when filing their returns—and those mistakes can cost people thousands . As a Certified Public Accountant with his own boutique firm, Gary Craig has seen it all. He shares some of the most common tax blunders that he witnesses to ensure that your own filing goes smoothly.

1) Shopping for the Biggest Refund /  Craig says that perhaps the biggest mistake is trying to find someone who will give you the largest refund without making sure that it's accurate. "I got a guy last year who came in at the very last minute on April 10," says Craig. "He and his wife filed separately to take more exemptions, and the tax preparer he'd initially used was really aggressive about reimbursing. The guy was flabbergasted by how much he still owed and came to me ‘refund shopping' to see if I could lower his tax liability, and I had to tell him, ‘You actually owe more,' because the other preparer was so aggressive with the deductions."

2) Not Making Sure That Your Tax Preparer Signs the Return  /  If your tax preparer is confident in the accuracy of the return that he's prepared for you, then he'll have no trouble putting his name on it. But if he doesn't sign the return, it could be a sign that he's done something shady. In fact, Craig says, "If [the mistakes on your return are] serious and seem intentional, you can report him to the IRS. That's grounds for losing one's license."

3) Being Too Aggressive With Unreimbursed Business Expenses  /  This mistake has an easy solution: In addition to keeping those receipts for unreimbursed business expenses, always keep a record of your company's reimbursement policy—even for past years. This is the only document that will save you in an audit. Without it, the IRS won't recognize those expenses.

4) Taking Inappropriate Real Estate Deductions  /  If you're not a real estate professional, and you make more than $150,000, you can't take losses on any rental properties that you own against your normal working wages in order to lower your taxable income. Take it from Craig: "I had a client making $300,000, and taking $160,000 in real estate losses"—none of which was allowed. His bill? A cool $50,000 in back taxes and penalties.

5) Inflating the Value of a Car That You Donate  /  "This has been really popular the last few years," says Craig, "but IRS regulations around that have become more stringent in terms of documenting the value. If you've got a 1985 Toyota Corolla sitting in your garage, and you donate that vehicle to charity, claiming it's worth $1,500, you'd better have good documentation to support that value." His recommendation: Start with the Kelley Blue Book value. And if you make any improvements to the car, keep the receipts so you can prove their worth.

6) Being Too Aggressive With Home Office Deductions  /  This year, the IRS changed the requirements on the home office deduction for the 2013 tax year (to be filed in 2014). Under the new rule, taxpayers have the option to take a "standard" home office deduction of $5 for every square foot of office space up to 300 square feet. In the interim, the home office deduction could trip up those filing for it in the 2012 tax year, so make sure to measure your square footage correctly.

7) Misunderstanding the Stock Transactional Wash Sale Rule  /  Let's say you buy a few shares of Facebook stock, and then you later sell them at a small loss. Normally, you could deduct that loss against any other capital gains you made that year in order to lower your taxes. But if you bought more stock 30 days after selling (or 30 days before selling), then the first sale is disregarded. "It's like you never sold the stock in the first place," says Craig. And you won't get the tax benefit.

8) Not Taking Advantage of Traditional IRA Deductions  /  Here's a "mistake" that you can retroactively use to lower your taxes in the previous year. Plus, it also boosts your retirement savings! If you have a 401(k) at work, you can also contribute to your retirement savings in a traditional IRA and get a tax deduction if your income falls under the income limits. (For 2012, singles making $58,000 or below and those married filing jointly making $92,000 or below can contribute the full $5,000 to their IRAs; singles with income between $58,000 and $68,000 and married couples with income between $92,000 and $112,000 can make partial contributions.) So let's say that it's 2013, and you realize that you didn't contribute the full amount allowed to you for your IRA for 2012. You can still make a contribution now that will count for 2012, lowering your taxes for that year.

9) Neglecting to Tell Your Tax Preparer About Life Changes  /  Although things that happen in your family life or your job may seem unrelated to your taxes—and therefore none of your CPA's business—they can affect how much you owe. "Maybe your mother has moved in and is dependent on you, or your kids are now old enough to be in daycare," says Craig. "Tell your CPA what's going on in your life instead of just bringing him a bundle of forms." For instance, if you've changed jobs, your CPA could help you structure your compensation to maximize tax savings.

10) Settling for a CPA Who Just Goes Through the Motions  /  "Find a tax preparer who knows and cares about what makes you you," says Craig. Your CPA should know what brings you pleasure in life, what kind of family you have and what your values are. This way, for instance, he or she can help you make sure you're meeting your retirement goals with smart tax planning. Also, according to Craig, "the CPA can look out for opportunities to bring you during the year."

A look at the craziest tax write-offs

Melody Hobson for CBS Money Watch writes:  It's hard to think there's anything funny about taxes when you're under a mountain of paperwork, but CBS News contributor and analyst Mellody Hobson has a little comic relief for taxpayers. In all her research about taxes, she came across some fairly ridiculous write offs the IRS has allowed -- and some crazy things people have tried and failed to slip by the IRS.

First, you'd be amazed about what people try to write off concerning their pets, and it's no wonder why -- they're expensive. According to the ASPCA, dogs and cats both cost over $1,000 a year. There was the case of the woman who claimed an unusually high amount of medical expenses for a dependent, but she didn't have a spouse or any children. Turns out the "dependent" was her dog. Her accountant set her straight that if it's covered in fur, you can't claim it as a dependent. In general, pet expenses are not deductable, but there are a couple surprising exceptions. 

For instance, you can deduct expenses related to a foster animal if the goods or services are solely for the foster pet and if the organization is a registered non-profit. That means it has 501(c)(3) tax status. Also, expenses exceeding $250 may require a letter from the organization. In a landmark tax court case, a California woman was able to deduct 90 percent of the $12,000 in deductions she claimed for the 70 cats she fostered. Seventy cats. But this wasn't your average crazy cat lady -- she was working with a legitimate charity.

Another case in which you can deduct dog expenses? If you own your own business and your dog doubles as a security system. But don't push it: You can't deduct expenses for your Chihuahua. If you're going to claim you employ Fido as a guard dog, you need to be a little bit afraid of him yourself -- we're talking pit bulls and German Shepherds, not a Labrador who greets you at the door with a squeaky toy. You can't deduct the cost of the dog itself, but related expenses -- like food and medical bills -- can qualify. The craziest detail? You can depreciate your guard dog over its lifespan as determined by a local breeder. Remember, as with everything tax-related, documentation and receipts are crucial.

Some people want to get paid for love, and sometimes they actually can. You know that loaf of a boyfriend or girlfriend? They could add value come tax time. To claim a nonrelative as a dependent, he or she had to live in your home for the full tax year and make less than $3,800 in gross income for 2012. You also generally must provide more than half of the person's financial support, and he or she can't be claimed as a dependent by anyone else. 

There have been a couple of completely ridiculous claims in this arena, like the man who tried to deduct money spent on his mistress as a business expense. There is another story about a man whose accountant asked him and his wife about the mortgage interest deduction on their condo in Utah. The deduction was legitimate but his wife didn't know about the condo, where he'd set up his mistress. It may have been the last time they filed a joint return.

We recently tied up awards season with the Academy Awards, and one thing most movie stars have in common is that they aren't hard to look at. A lot of aspiring actors and actresses are tempted to write off plastic surgery, but just because you incur an expense for business reasons doesn't mean it qualifies as a deduction. 

Cosmetic surgery is generally not deductible because it's for aesthetic reasons. To qualify as a medical deduction, the procedure must be medically necessary, meaning it was prescribed by a physician. So a nose job could qualify if you are repairing a deviated septum. Remember, all your medical expenses, including any allowable plastic surgeries, must come to more than 7.5 percent of your adjusted gross income before you can claim them.

To qualify as a business expense, you have to prove the surgery is related to your job performance, and there is one infamous case of plastic surgery satisfying this requirement. An exotic dancer with the stage name "Chesty Love" had her breasts augmented to a 56FF and then a 56N. After the IRS ruled that her surgeries were personal expenses, she appealed, citing her surge in income post surgery. 

Four years after she filed, a judge eventually ruled that the implants could be deducted, comparing them to work clothes and uniforms, which are allowable only if they satisfy a two-step test: 

1 - Required as a condition of employment
2 - Unsuitable for everyday use 

Considering Chesty Love's new assets weighed in at ten pounds apiece and she would have taken them "off" after work if possible, they were considered "props" that could, in fact, be deducted.

One final crazy write-off: A young Amish man deducted his buggy. At first blush, this seems to be a completely legitimate write-off -- it's for business purposes. But the accountant looked closer and saw that the buggy had been outfitted with a velvet interior, kick plates, dash lights, speedometer, hydraulic brakes and dimmer switches. This Amish boy had completely pimped his buggy, spending over $3,500 instead of the average of about $2,700. The accountant ended up allowing him to deduct a portion of the buggy, minus the tinted windows.

Back to Basics: What Property Expenses are Deductible?

Jason Van Steenwyk for RealEstate.com writes: This week, I wanted to take a closer look at real estate tax questions that begin with the phrase, “Can I deduct,” and then mention the cost of fixing or upgrading something in the house. Sometimes the writer mentions that it’s a personal residence, and other times the writer doesn’t specify whether the property is a personal residence, an investment property, or a mixed-use property.

It’s clear that we need to have a common ground to start from, and go back to the 101 level to make sure we define some terms. Looking at the questions that are coming from readers, confusion over what costs are legally deductible and what costs you cannot fully deduct in the current year is a common theme. So let’s get back to basics.

First of all, you cannot answer any question regarding how a property will be treated under the tax code without first classifying it. There are two sets of rules under the tax code: one set for personal residences and one set for investment properties. It is possible for properties to be mixed-use. For example, you can live in a home for part of the year and rent it out for tourist season. But most folks have one personal residence and any other properties they own are strictly investments.

Personal Property

If the property is for your own personal use, repair and renovation expenses are almost never deductible. Put it out of your mind. You can’t deduct repairs, and you can’t deduct renovations to a personal property. The IRS considers these to be personal expenses, and so they are normally covered under your standard deduction, which is the amount the IRS doesn’t tax so you can spend it on basic, bare-bones living expenses.

You also don’t claim depreciation on a personal residence – at least while you’re living there. Instead, you get the benefit of a capital gains tax exemption on the first $250,000 of gains (double that if you are married) when you sell the home – provided you meet the ownership and use tests. Special rules apply to military families.

Exceptions

There are always exceptions aren’t there? Here are the exceptions with personal property:
Home mortgage interest. Most people are familiar with this deduction. Currently, you can deduct interest paid on a mortgage secured by your own home up to $1 million, or for home equity loans (on a home you already own) up to $100,000.

Prepaid points. If you pay points in lieu of interest (that is, you “buy down” to a lower interest rate on a new mortgage by paying points), you can deduct this expense, but normally only gradually, over time, just as you would have claimed the deduction on a home mortgage.

Casualty losses. Unexpected casualty losses – fires, floods, burglaries, sinkholes, and the like – are normally deductible, even when the loss takes the form of the necessity of paying for repairs on a personal residence.  You can only deduct the portion of damages for which you are not reimbursed by an insurance company. If they pay the damages, then the deduction for that part of the damages they pay goes to the insurance company, not to you. (Remember, it’s just a cost of doing business for them!) You report these losses on IRS Form 4684. Note that you have to deduct 10 percent of your adjusted gross income from your casualty losses before you can start deducting them against income. You also have to deduct $100 from each separate loss.

Note: Casualty losses have to be sudden and not something you can reasonably expect. Termite damage, for example, happens too gradually to qualify as a deductible expense. But see this information on deducting losses from corrosive drywall for your 2012 tax return or certain years prior to that. For more information, see IRS Publication 547.

Taxes. You can normally deduct property and other local taxes paid to local and state revenue agencies – provided they are uniformly assessed on properties throughout the jurisdiction. If it’s a special assessment for your own housing development, though, it’s not normally a federal tax deduction.

Investment Property

The rules with investment property are more liberal – but more complicated. Generally, you can deduct – in some way, shape or form – expenses you incur to acquire, maintain or improve investment property. But usually not all at once.

What kinds of things can you deduct now, all at once, in the current year?

Repairs. You can deduct the cost of routine maintenance and repairs to investment property in the year in which you incur the expense – but not the cost of anything smacking of renovation or improvement. The rule of thumb: Does it make the property useable? It’s probably a repair. Does it change the function of the property? It’s a renovation and not deductible in the current year. Does it materially increase the fair market value of the property? If so, it’s probably not a repair. You can’t deduct the cost in the year received. Instead, you have to recover the cost of your investment over time, through a process called depreciation and amortization.

Interest. You can generally deduct any interest you actually paid or incurred during the year on mortgages taken out on investment property.

Advertising and marketing. Had to advertise to get a tenant? You can deduct advertising and marketing expenses. That’s a cost of doing business.
Taxes. State and local taxes are deductible.

Travel and mileage. Had to travel to check on your properties? Attend meetings? Did you go to a real estate investors’ convention? You can generally deduct travel expenses attributable to running your real estate investment business. Generally, you can deduct mileage from your primary place of doing business (do you have a home office?) to your properties or any other business site. Specifically, effective Jan. 1 2013, you can deduct 56.5 cents for every mile you drive for business purposes.
Alternatively, you can deduct actual vehicle maintenance costs, but rules for this are complicated. Most folks just go with the mileage.
Note: You can only deduct 50 percent of meal and entertainment costs.

Legal and professional services. Here’s an important distinction: You can deduct the cost of tax planning, financial consulting and legal advice for your business, but not for yourself, personally (exception: Personal tax preparation costs are generally deductible). That means you can deduct the costs of attorneys’ fees involved in drawing up documents on your investment properties, but not on your personal residence.

Depreciation and amortization. When you buy any item with a useful life of over one year, for the purpose of earning money for you, you can’t normally deduct the cost in the first year (exception: Section 179 rules and business startup expenses). Instead, you have to spread your deductions over the expected useful life of the property.

For residential real estate, the IRS has defined that useful life of the property to be 27.5 years.
This means that if you spend $1,000,000 on an investment property, you do get to deduct the full cost of the property – but only a little at a time, over a period of 27.5 years.

Another word for this process is “capitalization.” That is, when you amortize the costs of an investment, you are “capitalizing” the costs of the investment over the useful life of the property.
There will be much more about each of these concepts in upcoming Tax Corner columns. But we’ll also refer back to this one occasionally, to keep ourselves grounded in the basics, and to give more novice real estate investors and homeowners something accessible to read up on the basics.

IRS Tax Break for Low-Income Artists and Musicians

Libin Zhang for taxloops writes:  The front page of Form 1040 contains a deduction line for "certain business expenses of performance artists."  Many actors and musicians get excited about this tax break until they read the fine print on page 4 of the instructions to Form 2106 (which they do not have to file for this tax break).
The special deduction is only useful for performance artists who receive a W-2 as an employee.  Freelancers and independent contractors (who receive Form 1099s) are always entitled to deduct all of their business expenses on Schedule C, so they do not need to use this special deduction.
Internal Revenue Code section 62(b) provides that a performance artist-employee may take the special deduction only if:
1) He or she worked as an employee for at least two employers (who each paid the artist $200 or more during the year),
2) The expenses being deducted are more than 10% of the income from performance art, and
3) His or her total adjusted gross income is less than $16,000.
The $16,000 income threshold includes income from all sources, not just the performance art.  If the artist is married, the couple's combined income must be less than $16,000. 
Even if the deduction applies to a starving artist, it does not provide a particularly large benefit since people do not pay a lot of federal income taxes when they make less than $16,000 a year, thanks to the standard deduction, the earned income tax credit, the credit for small business low sulfur diesel refining, and other tax benefits.
The $16,000 threshold was fixed when the deduction was added in 1986, when the median household income was around $23,000, and it has never been adjusted for inflation.
Section 62 Adjusted gross income defined (a) General rule.
For purposes of this subtitle, the term “adjusted gross income” means, in the case of an individual, gross income minus the following deductions:
***

(2)(B) Certain expenses of performing artists. The deductions allowed by section 162 which consist of expenses paid or incurred by a qualified performing artist in connection with the performances by him of services in the performing arts as an employee.

(b) Qualified performing artist.

(1) In general.
For purposes of subsection (a)(2)(B), the term “qualified performing artist” means, with respect to any taxable year, any individual if—
(A) such individual performed services in the performing arts as an employee during the taxable year for at least 2 employers,
(B) the aggregate amount allowable as a deduction under section 162 in connection with the performance of such services exceeds 10 percent of such individual's gross income attributable to the performance of such services, and
(C) the adjusted gross income of such individual for the taxable year (determined without regard to subsection (a)(2)(B)) does not exceed $16,000.  
(2) Nominal employer not taken into account.
An individual shall not be treated as performing services in the performing arts as an employee for any employer during any taxable year unless the amount received by such individual from such employer for the performance of such services during the taxable year equals or exceeds $200.

(3) Special rules for married couples.

(A) In general. Except in the case of a husband and wife who lived apart at all times during the taxable year, if the taxpayer is married at the close of the taxable year, subsection (a)(2)(B) shall apply only if the taxpayer and his spouse file a joint return for the taxable year.

(B) Application of paragraph (1). In the case of a joint return—
(i) paragraph (1) (other than subparagraph (C) thereof) shall be applied separately with respect to each spouse, but
(ii) paragraph (1)(C) shall be applied with respect to their combined adjusted gross income.