H&R Block Improves, but Threat of Disruption Remains

Michael Lewis for Motley Fool writes: Tax-prep-service provider H&R Block (NYSE: HRB  ) has little intention of posting a positive fiscal-second-quarter-earnings figure because it's one of the most seasonal shops in town. Still, while investors and analysts expected a loss, this one came in worse than estimates, if a little better than last year's comparable quarter. The company has struggled with the divestiture of its savings and loan business -- a segment that management wants to leave behind for an easier regulatory environment. H&R Block's earnings miss shouldn't concern existing investors much, as it was a necessary charge for improving long-term prospects for the business, but investors should keep a close eye on competition, as this is yet another space that faces intense disruption.

Earnings recapRevenue slipped slightly from 2012's $137.3 million to $134.3 million. Analysts wanted sales closer to $138 million. The company actually saw some compelling results for the traditionally weak quarter, including improved interest income from its various personal and small-business tax services. The overall drop in service revenue was due to timing -- not a drop in demand.

Margins looked a bit crunched, though, as operating expenses rose roughly 4% to $315 million based on higher marketing spending and some compensation benefits.

At the bottom end of the income statement, H&R Block lost $104.9 million -- $0.39 per share. This comes in as a negligible improvement from last year's loss (the same on a per-share basis), and a penny worse than analyst consensus for the quarter.

As H&R Block is able to put its banking segment into the rearview and arrange a partnership with a lender to enhance its business-services segment, earnings may become less lumpy and less wholly reliant on the first four months of the year. To go a step further, business services may be the future of the company.

Stiff competitionH&R Block's personal-tax-preparation services are far more expensive to provide than Web-based services such as Intuit's (NASDAQ: INTU  )  TurboTax and Blucora's (NASDAQ:BCOR  )  TaxAct products. Both have nailed down their respective markets -- higher- and low-end markets, respectively. H&R Block has its own Web-based tax preparer, but it's facing very difficult and well-established competition in the space. For this reason alone, investors should tread carefully into the stock.

H&R Block's service is priced similarly to TurboTax, while TaxAct offers a cheaper, slimmed-down version of the two. TurboTax is the leader in the segment, with an army of top reviews and arguably the best user experience.

At 13 times earnings, H&R Block is more expensive than Blucora, which has just as good if not better growth prospects. The former does, however, trade at a decent discount to Intuit's 18.6 times earnings. Still, with a threatened business model and fair valuation, H&R Block isn't an attractive buy today.

Smart Tax Moves Homeowners Should Make Before 2013 Ends

Erin Carlyle for Forbes writes: With just three weeks left until 2014 and the holidays upon us, it’s a busy time of year. But there are a few things last-minute things homeowners should be sure to squeeze in to maximize their homeowner tax benefits for 2013.

FORBES spoke with two CPA tax experts, Michael M. Eisenberg, a CPA financial advisor at Eisenberg Financial Advisors in Los Angeles, and Jordan Amin, of EisnerAmper LLP in Iselin, New Jersey, who gave us the following tips:

1. Pre-pay your property taxes
In California, where property taxes are due twice a year, it may make sense to pre-pay next year’s first installment. This is especially the case for people who expect their income to go down next year. “Check with your CPA about what the rules are in your state,” Eisenberg advises.

2. Accelerate mortgage payments
For similar reasons, people expecting their incomes to go up may want to push their January mortgage payment into December. “If you’re going to make that payment in the next 30 to 90 days anyway, it’s almost silly not to accelerate and get the deduction,” says Amin. “Especially if your income is going to change.”

3. Make energy efficiency improvements
The IRS tax credit for making improvements to a home for energy efficiency–insulation, air conditioning or heating units, windows, among other items–they can qualify for a tax credit of 10% of the cost, up to a lifetime maximum of $500. Note that this is not a deduction, but a credit–a straight subtraction from taxes owed. “This thing may be expiring at the end of the year,” Eisenberg says. So do those energy efficiency projects now.

4. Finalize your foreclosure sale
Before the financial crisis, people who lost their homes to foreclosure and had the remainder of the balance on their mortgages forgiven had to report that cancelled debt as income and pay taxes on it. But in the midst of the recession, with people losing houses left and right, Congress had a heart and stopped taxing the first $2 million in forgiveness of mortgage debt. Well, that nice perk is coming to an end at the end of the month. So if you have a home in the midst of a short sale or foreclosure proceeding, put the pressure on everyone involved to get the deal done before the year is over.

“This is so important that people know,” Eisenberg says. “If they have $500,000 or $600,000 or $700,000 in debt cancelled,” on a sale that closes after the end of a year, “then not only have they lost their house, they’re also going to end up paying taxes on the debt forgiveness as income. Not a good outcome.”

In addition to the above steps you might want to take before the year is over, here are some items that you can’t do anything to change, but would be wise to keep in mind for 2013 taxes:

1. Deductibility of points
For new loans on home purchases for this year, points are deductible. This is true for any acquisition. However, for points on a refinance loan for anything other than improvements on the home, the points are deductible over the life of the loan. On 2013 sales of homes with a refinanced loan that has points, the unused portion of the points are deductible for this year’s taxes.

2. Deductibility of PMI ending
The tax deduction for principal mortgage insurance (PMI) is set to expire at the end of this month, but Eisenberg does not recommend pre-paying, as the IRS may not look fondly on that.

3. Exclusions on gains from sales
Home sales in 2013 qualify for an exclusion on the net sales gain (the selling price minus the purchase price plus any improvements) of up to $250,000 for an individual, $500,000 for a couple. The caveat: this only applies to a home that was used as a personal residence for two out of five years. If you’ve moved out of a personal residence and then moved back in, you have to live in it for five years before you can take this exclusion. Consult a tax accountant to see if you qualify for a partial exclusion.

4. Home office deduction
Both homeowners and renters can take advantage of a simplified rule for the home office deduction. Under new rules for 2013, the formula is a $3 per square foot deduction, up to 500 square feet. The office has to be used consistently and regularly, though.

5. Clean out and give away
Another thing that homeowners-—or anyone—-can do is go through their homes and get rid of extra possessions by making donations to charity. Taxpayers who itemize can include charitable deductions in their 2013 taxes. “Just make sure you’re donating it to an IRS-designated 501c3 organization,” Amin says.

IRS Clarifies Tax Rules for Start-Up Costs of Terminated Partnerships

Ken Berry, Correspondent for AccountingWeb writes: It's a given that a partnership is generally entitled to a limited current deduction for qualified start-up and organizational costs and can amortize the remainder over time. But what are the tax consequences if a partnership technically terminates due to the sale or exchange of its interests? This issue, which was has long been debated by tax commentators, is finally settled under new proposed regulations released by the IRS.

Before we move forward, let's step back to review some of the key components of the existing law. Under Section 708 of the tax code, a partnership is considered to be legally terminated if either of the following occurs:

1. No part of any business of the partnership continues to be carried on by any of its partners.
2. There is a sale or exchange of 50 percent or more of the total interest in partnership capital and profits within a twelve-month period.

The latter is referred to as a "technical termination" because the partnership actually survives. It is terminated for federal tax purposes, while giving rise to a new partnership. The prevailing regulations say this occurs when the old partnership contributes all of its assets and liabilities to the new partnership in exchange for interests in the new partnership, and then immediately distributes those interests to the partners of the old partnership.

Typically, a partnership will incur start-up costs before it gets the business up and running. These expenses normally must be amortized over a period of 180 months (i.e., fifteen years). However, Section 195 allows a current deduction of up to $5,000 of qualified start-up costs, including organizational expenses, investigatory expenses, pre-production expenses, consulting fees and other professional services, and travel costs. 

The maximum $5,000 deduction is phased out on a dollar-for-dollar basis for start-up expenses over $50,000. Any remainder is amortized over the usual fifteen-year period. If a partnership is liquidated before the end of the amortization period, any remaining start-up costs may be deducted at that time.

Because a technical termination under Section 708 is treated as a liquidation of a partnership, some tax experts have argued that the partnership can deduct any remaining unamortized balance of its start-up costs. But now the new proposed regulations nip that theory in the bud. According to the new regs, the remaining unamortized assets are treated as being transferred to the new partnership, which is then required to amortize the costs over their remaining useful life.

Here's an example of how it works: At the time ABC Partnership technically terminates, it has an unamortized balance of $10,000 in qualified start-up costs. The costs have been amortized over seven years of their original fifteen-year period. Under the proposed regulations, ABC Partnership can't deduct the $10,000 of unamortized expenses, even though ABC Partnership is treated as having been terminated under Section 708. Instead, the balance is transferred to the XYZ Partnership, the newly formed partnership, which then can deduct the remaining $10,000 over the last eight years of the original fifteen-year useful life.

The new proposed regulations bring the tax treatment of start-up costs in line with the tax rules for amortizing intangible assets under Section 197. The regulations in this area don't allow accelerated deductions upon a technical termination. View the new regs in their entirety at https://www.federalregister.gov/articles/2013/12/09/2013-29177/partnerships-start-up-expenditures-organization-and-syndication-fees.

5 Great Tax Reasons for Contributing to a 401(k) Plan

JK Lasser writes: If you work for a company that offers a 401(k) retirement plan, think long and hard about what you want to contribute for 2014. The maximum contribution is $17,500 (plus $5,500 if you’ll be 50 or older by the end of 2014). You probably need to commit to your 2014 contribution now. There are 5 tax reasons for adding as much as you can.

1.         Salary contributions aren’t taxed

The amount you add to a 401(k) plan is not currently taxable. Thus, if your compensation is $45,000 and you add $6,000 to the plan, your taxable wages for the year are $39,000. However, the deferred amount is still taken into account for FICA purposes, so you’ll accrue Social Security credits based on the salary you receive plus the amount you contribute to the plan.

Even better than income tax deferral is the fact that by lowering your adjusted gross income (AGI) by the amount of your contribution, you may qualify for a variety of tax benefits that have eligibility limits based on AGI. And if you are a high-income taxpayer, you may reduce or avoid the phase-out on exemptions and itemized deductions. Thus, your tax savings can be much greater than simply the tax saved on the portion of compensation added to the plan.

2.         Contributions may generate a tax credit

The tax law lets you double dip by enjoying tax deferral as well as taking a tax credit. The retirement savers credit is up to 50% of deferrals up to $2,000 (top credit of $1,000); the credit percentage of 10%, 20%, or 50% depends on your filing status and modified adjusted gross income (MAGI). For 2014, some credit is still allowed for joint filers with MAGI up to $60,000 ($27,000 for singles; $29,250 for heads of households).

3.         Employer contributions aren’t current income

Many employers make matching contributions to encourage participation or reward employees in the plan. Their contribution formulas may vary; usually they do not exceed 6% of compensation. Whatever amount is contributed by your employer to your account, it is not included in gross income now. You’ll pay tax on the contributions when you take distributions, which may not be until you retire and are in a lower tax bracket than you’re in when the contributions were made.

4.         Borrowing lets you tap funds without tax

If you have an immediate need for cash, you can get it quickly by borrowing from your own account. Your credit score doesn’t matter and interest rates are low. All you need to do is ask your plan administrator for a loan; you don’t have to specify why.

The most you can borrow is 50% of your account balance or $50,000, whichever is less. You have to repay the loan in level amounts over no more than 5 years (longer if the funds are used to buy a home), but you can pay it off more quickly with no penalty. If you’re married, you’ll need your spouse’s consent to the loan.

5.         Distributions are exempt from the NII tax

Distributions from qualified retirement plans and IRAs are not treated as net investment income (NII) for purposes of the 3.8% additional Medicare tax on net investment income. However, the distributions do count as part of MAGI, which could nonetheless help to trigger or raise the NII tax.

Conclusion

If you can’t afford to contribute the maximum, try to add as much as required to earn the maximum employer contribution. Working spouses with limited funds to contribute should coordinate their annual elective deferrals. When in doubt, talk with a tax advisor.

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2014 Tax Tables: What They Mean for Your Taxes

Dan Caplinger for Motley Fool writes: Every year, the IRS releases new tax tables that reflect the basic income-tax rates that people pay. Yet the IRS routinely waits until the last minute to release them, with even 2013's tax tables not yet available on the IRS website as of mid-December. As a result, you can expect to wait at least another year before you'll see the final version of the 2014 tax tables.

But what you do have access to right now are tax tables that give the brackets that apply to various taxpayers. Here are some 2014 tax tables you can use to calculate your projected tax for your estimated 2014 income, based on IRS-provided numbers.

Single filersIf you're unmarried and not a surviving spouse or a head of household, then you can calculate your taxes as follows:

If Your Taxable Income Is:	Then Your Tax Equals:	Plus:	of Taxable Income Above:
$9,075 or less	10% of your taxable income	N/A	N/A
Between $9,075 and $36,900	$907.50	15%	$9,075
Between $36,900 and $89,350	$5,081.25	25%	$36,900
Between $89,350 and $186,350	$18,193.75	28%	$89,350
Between $186,350 and $405,100	$45,353.75	33%	$186,350
Between $405,100 and $406,750	$117,541.25	35%	$405,100
$406,750 or more	$118,118.75	39.6%	$406,750

Source: IRS.

Married joint filers and surviving spousesIf you're married and file jointly, or if you're a qualifying surviving spouse, then you can calculate your taxes as follows:

If Your Taxable Income Is:	Then Your Tax Equals:	Plus:	of Taxable Income Above:
$18,150 or less	10% of your taxable income	N/A	N/A
Between $18,150 and $73,800	$1,815	15%	$18,150
Between $73,800 and $148,850	$10,162.50	25%	$73,800
Between $148,850 and $226,850	$28,925	28%	$148,850
Between $226,850 and $405,100	$50,765	33%	$226,850
Between $405,100 and $457,600	$109,587.50	35%	$405,100
$457,600 or more	$127,962.50	39.6%	$457,600

Source: IRS.

Heads of householdIf you qualify as a head of household, you can calculate your taxes as follows:

If Your Taxable Income Is:	Then Your Tax Equals:	Plus:	of Taxable Income Above:
$12,950 or less	10% of your taxable income	N/A	N/A
Between $12,950 and $49,400	$1,295	15%	$12,950
Between $49,400 and $127,550	$6,762.50	25%	$49,400
Between $127,550 and $206,600	$26,300	28%	$127,550
Between $206,600 and $405,100	$48,434	33%	$206,600
Between $405,100 and $432,200	$113,939	35%	$405,100
$432,200 or more	$123,424	39.6%	$432,200

Source: IRS.

Married filing separatelyIf you're married and file separately, then you can calculate your taxes as follows:

If Your Taxable Income Is:	Then Your Tax Equals:	Plus:	of Taxable Income Above:
$9,075 or less	10% of your taxable income	N/A	N/A
Between $9,075 and $36,900	$907.50	15%	$9,075
Between $36,900 and $74,425	$5,081.25	25%	$36,900
Between $74,425 and $113,425	$14,462.50	28%	$74,425
Between $113,425 and $202,550	$25,382.50	33%	$113,425
Between $202,550 and $228,800	$54,793.75	35%	$202,550
$228,800 or more	$63,981.25	39.6%	$228,800

Source: IRS.

Can't I just use those numbers?Strangely, the IRS requires taxpayers earning less than $100,000 to use its official tax tables rather than simply calculating an amount using the tax computation worksheet. The tax table breaks income into $25 or $50 increments, charging the same amount of tax wherever your taxable income falls within that range.

In some cases, the actual IRS tax tables can lead to ridiculous results that the tax tables above avoid. If an extra $1 of income pushes you into the next $50 increment, it can cost you as much as $14 in additional tax. But the same tactic works in reverse, as you can often structure your itemized deductions to get your taxable income down into the previous $50 increment to save that $14. Also, keep in mind that your filing status is determined by your marital status as of the last day of the year. So if you're getting married during 2014, one of the married filing status tables will apply to you throughout the year.

Still, by using these tables as a guide, you should be able to get a good early indication of what your tax bill might look like when you file your 2014 tax returns in April 2015.

’Tis the Season—for Considering Tax Efficiency of Investment Vehicles

Jeremy Schwartz for The Wisedom Tree Blog writes: With the markets reaching new all-time highs, many investors will see their mutual funds distribute large capital gains during this holiday season. This is especially true in the mid- and small-capitalization segments of the market, given the generally strong returns this year and based on initial capital gains releases that I have been monitoring from some of the largest mutual fund companies.

Tax efficiency is one of the prime benefits of exchange-traded funds (ETFs), and I expect this tax reporting season to accentuate the benefits of the ETF structure.

Let’s explore why I believe ETFs manage taxes in a more efficient manner and why I expect little capital gains from the traditional U.S. equity-related ETFs.

There are a few reasons why mutual funds distribute large capital gains when investing in U.S. equities:

1) Portfolio Turnover: Their active nature involves portfolio turnover, and when there is turnover and trading, capital gains experienced inside the fund must be distributed to the fund’s shareholders. With the markets at new highs, capital losses that might have built up seem to be getting taken away and more capital gains are being realized.

2) Outflows from Funds: If investors rebalance their portfolios and on a net basis sell their shares in a mutual fund, the portfolio manager must sell securities to meet these cash outflows from the fund, which generates a taxable event for the remaining shareholders in the fund, even if they choose to maintain their investment. With the markets high, this fund outflow can trigger capital gains.

ETFs’ Creation/Redemption Process Helps Manage Realization of Capital Gains Taxes

The creation and redemption process for creating new shares and redeeming shares of an ETF provides more tools to manage capital gains, even those experienced inside the fund itself.

In-Kind Transfer Is the Key: The creation and redemption process involves an in-kind transfer of securities into and out of the fund.

The ETF’s underlying constituents are delivered into the ETF in exchange for newly issued shares of the ETF during the creation process. When shares are redeemed, the underlying components are delivered from the ETF portfolio to the authorized participant in exchange for ETF shares that are no longer considered shares outstanding. Neither of these transactions is considered a trade for tax purposes.

This in-kind transfer of securities is the mechanism that helps make ETFs such tax-efficient vehicles. It becomes something of a rare event for a security to be sold within a fund, as most sales are handled through this redemption process. The exception will be portfolio adjustments that need to be made for corporate actions or other extraneous portfolio activity.

Best Place for Portfolio Turnover: Within an ETF

One of the reasons ETFs have a reputation for being tax efficient is that there tends to be less portfolio turnover in index-based strategies than in active strategies. But not all ETFs have absolutely low levels of turnover. If there is a good place to have turnover, I would argue it is within the ETF structure, because of the in-kind transfer mechanism described above.

Some of the new “smart beta”-related strategies incorporate rules-based rebalances back to a sense of relative value—and these rebalances can create 30%–40% turnover, or more, on an annual basis.

Some of the tax consequences of these in-fund portfolio rebalances can be offset via the efficient management of the fund provided by the functionality of the creation and redemption process. This creation/redemption process is a key element to what makes ETFs tax efficient and why I think they will remain so, despite the market hitting new all-time highs.

Not All Markets Allow In-Kind Transfers

Not all markets can be as tax efficient as U.S. equities. The key to U.S. equity tax efficiency, in my mind, is the fact that most of the execution of the underlying components of ETFs happens outside the fund structure, by the authorized participants.

Not all markets possess this in-kind transfer attribute. For instance, not all fixed income securities can be transferred in-kind. Not all emerging market countries allow for in-kind transfer of securities. In fact, MSCI even cited this mechanism as one of the reasons it qualified South Korea as an emerging market—as all other developed market countries do have this in-kind transferability (as we discussed in this previous blog post).

Focus on the Bottom Line This Capital Gains Season

One portfolio manager in Texas I spoke with this year said to me that his clients no longer have losses built up in their portfolio—a very nice problem to have, one can say. But this makes portfolio rebalancing tougher for this advisor, because his clients do not always like to see the capital gains taxes that come with incorporating a portfolio rebalance.

This is where some of the ETFs that incorporate a relative value rebalance in their methodology can manage valuation risks—but in a tax-efficient format within the ETF structure. The U.S. mid- and small-cap segments, which have some of the strongest gains this year, are a prime area to consider such relative value-based rebalancing ETFs.