Dawn Connolly, Author at Barnard Vogler & Company

As you think about year-end tax planning, keep in mind that beginning in 2013, the top rate for long-term capital gains and qualified dividends was raised to 20 percent. If you are subject to the 3.8 percent surtax on net investment income, your effective top rate could be as high as 23.8 percent.

If you are in the 10 percent or 15 percent marginal tax bracket, the zero percent rate still applies.

Almost everything you own and use for personal or investment purposes is a capital asset. An example is an investment in stocks. When you sell a capital asset, the difference between the asset’s basis (usually its cost) and the amount you sell it for is a capital gain or a capital loss.

If your capital losses exceed your capital gains, the amount of the excess loss that can be claimed as a deduction is generally the lesser of $3,000, or $1,500 if you are married filing separately. If your net capital loss is more that this limit, you can carry the loss forward to later years.

For tax purposes, it is usually advisable to hold capital assets for more than 12 months before disposing of them to avoid short-term capital gain status, unless market conditions indicate otherwise. However, if you are carrying capital losses forward from 2012, you may want to consider recognizing capital gains to the extent of the available carryover deduction.

In choosing which gains to recognize to offset capital losses for tax savings, preferably you should recognize short-term gains, if available, because otherwise they would be taxed at your ordinary income rate. Defer recognition of long-term gains in this situation since they are usually taxed at the lower long-term capital gains rate.

Carryover net capital losses from pre-2013 transactions are able to offset capital gains at the new higher rates without adjustment for the rate change.

Healthcare notices must be sent by Oct.1

By Oct. 1, 2013, any business with at least one employee and $500,000 in annual revenue must notify all employees by letter about the Affordable Care Act’s healthcare exchanges, which will open Jan. 1, 2014.

The requirement applies to any business regulated under the Fair Labor Standards Act. Going forward, letters must be distributed to any new hires within 14 days of their starting date.

The notice requirement applies to all employers, whether or not they offer health coverage. In addition, employers must send the notice to all full-time and part-time employees, whether or not they are eligible for benefits.

Earlier this summer, the employer mandate, which states that every business with at least 50 or more full-time employees must offer workers acceptable coverage or face a $2,000 penalty per worker, per year, was pushed back until 2015.

But the Oct. 1, 2013, employee-notification deadline remains in effect.

Sample notices are available on the Department of Labor website at: www.dol.gov/ebsa/pdf/FLSAwithplans.pdf (for employers that offer a health plan to some or all employees) www.dol.gov/ebsa/pdf/FLSAwithoutplans.pdf (for employers that do not offer a health plan)

In a recent private letter ruling, the IRS has given an unnamed S corporation a second chance at computing its depreciation deduction.

According to the facts in the ruling (LTR201337013), sometime in the past, the S corporation acquired and placed in service depreciable assets, some qualifying for 100 percent bonus depreciation and some qualifying for 50 percent bonus depreciation.

Thinking that the bonusdepreciation would only produce losses that the corporation’s shareholders would be unable to use on their personal returns, the S corporation made a valid, timely election to forgo the bonus depreciation.

After filing the relevant tax returns, the S corporation became aware that a major shareholder had sufficient income to have benefited from the bonus depreciation deductions.

However, once the election is made to forgo bonus depreciation, a business can revoke the election only with the consent of the IRS. That consent may be obtained only by filing a request for a private ruling.

The recent private ruling contains the IRS response to the S corporation’s request. The IRS ruled that the S corporation could revoke its election to forgo bonus depreciation by filing the appropriate amended returns within 60 days after the date of the ruling.

One common piece of year-end tax planning advice is to check your withholding to be sure you will have paid enough tax to avoid a penalty for underpayment of estimated taxes.

If it looks like you will be short, the solution is to increase the withholdings being taken out of your paycheck between now and the end of 2013.

Many higher-income people are aware that the new 3.8 percent net investment income tax may cause them to owe more taxes in 2013. Far less attention has been paid to the new 0.9 percent Medicare hospital insurance tax that applies to earned income above $200,000 ($250,000 for married couples filing jointly and $125,000 for married couples filing separately).

In theory, if you are subject to this tax, it is being withheld by your employer. However, if not enough is being withheld or you are self-employed, you must pay the difference with your income taxes. If you are not careful, an underpayment penalty could result.

For example, suppose your total earned income for 2013 will be enough to subject you to the 0.9 percent hospital insurance tax. However, if you worked for more than one employer during the year, perhaps no single employer paid you more than $200,000, the threshold for withholding.

In that case, you would be subject to the tax, but none would have been withheld. The same issue results if you have self-employment earnings in excess of the taxable threshold.

If you are trying to pay in more tax to avoid an underpayment penalty, the general recommendation is to ask your employer to increase your withholding.

A less conventional alternative is to take an eligible rollover distribution from a qualified retirement plan before the end of 2013. Income tax withheld from the distribution will be applied toward the taxes owed for 2013.

You then have 60 days to roll over the gross amount of the distribution, as increased by the amount of withheld tax, to a traditional IRA. If you complete the full rollover, no part of the distribution will be includible in your 2013 income, but the withheld tax will be applied pro rata over the full 2013 tax year to reduce previous underpayments of estimated tax.

The IRS concluded that amounts paid by a U.S. corporation to its foreign parent were not deductible as interest since the U.S. corporation, in effect, borrowed from its parent to make those payments.

As explained in a Chief Counsel Advice (CCA 201334037), the U.S. corporation maintained a general account into which it deposited amounts derived from all sources, including advances from third-party banks under lines of credit, active business income and advances from its foreign parent. Funds were withdrawn from this account to pay day-to-day operating costs.

Periodically, funds were withdrawn from this account to make payments to the foreign parent. These payments were characterized as payments of interest on advances from the parent. Funds sufficient to cover these payments were obtained shortly before or shortly after the disbursement, either through additional loans from the parent or pursuant to draw-downs on one or more lines of credit with the parent.

The related-party rules of Internal Revenue Code Section 267 authorize the IRS to provide regulations that limit the deductibility of payments to foreign persons. Those regulations provide that payments to a foreign related party are not deductible until that amount is treated as paid to the foreign person.

The IRS found that the U.S. corporation’s payments were not deductible as interest because it borrowed for the purpose of paying the interest. The IRS noted that, when funds are (in form) loaned by the foreign parent to the U.S. corporation and “paid back” via return wire transfers, the resulting “U-turn” transaction is one that changes neither the economic position of the lender nor the borrower.

The Tax Court ruled in a recent case that a doctor with a minority ownership interest in a medical practice organized as an S corporation was not deprived of the economic benefit of his share of ownership – although he was excluded by the majority owner from participating in the corporation’s activities.

Accordingly, he was obligated to report his share of the corporation’s undistributed profits and interest income (Ramesh T. Kumar v. Commissioner, T.C. Memo 2013-184, Aug. 13, 2013).

Dr. Kumar owned 40 percent of the S corporation. Another doctor, who also served as president and chairman, owned the remaining 60 percent.

When a dispute arose among the two doctors, Dr. Kumar’s role in the practice was replaced by another doctor, who was an employee of the corporation. Dr. Kumar received no compensation and no distributions, and he did not take part in the operations or management of the corporation.

The corporation issued a Schedule K-1 to Dr. Kumar showing his share of the income as exceeding $200,000. The court concluded that, since Dr. Kumar had never agreed to relinquish his ownership in the corporation, he was responsible for reporting his share of the income.

There have been new developments in the aftermath of the Supreme Court decision that struck down Section 3 of the Defense of Marriage Act (U.S. v. Windsor, et. al., 111 AFTR 2d 2013-2385, June 26, 2013), which required same-sex spouses to be treated as unmarried for purposes of federal law.

Now the IRS has issued a ruling (Rev. Rul. 2013-17) concluding that same-sex couples, legally married in jurisdictions that recognize their marriages, will be treated as married for federal tax purposes. The ruling applies regardless of whether or not the couple lives in a jurisdiction where same-sex marriage is recognized.

The ruling clarifies that same-sex couples will be treated as married for all federal tax purposes, including income, gift and estate taxes and more. The ruling applies to all federal tax provisions in which marriage is a factor. More than 200 Internal Revenue Code sections and regulations relate to laws that refer to marriage, spouse, husband or wife. Some of the provisions affected include:

➤ Filing status

➤ Claims of personal and dependency exemptions

➤ Standard deductions

➤ Employee benefits

➤ IRA contributions

➤ Earned income tax credit claims

➤ Child tax credit claims

Any same-sex marriage legally entered into in one of the 50 states, the District of Columbia, a U.S. territory or a foreign country will be covered by the ruling. However, the ruling does not apply to registered domestic partnerships, civil unions or similar formal relationships, even if recognized under state law.

The ruling concludes that legally married same-sex couples:

➤ Generally must file their 2013 federal income tax return using either the married filing jointly or married filing separately filing status. Single filing status is not appropriate.

➤ May file amended returns for prior years, if the tax year is still open under the statute of limitations.

Note that, in some cases, filing a joint return may result in a higher tax bill than the combined tax on two unmarried returns. The ruling concludes that same-sex couples who were married in prior years may, but are not required to, file amended returns.

It is advisable to make the tax calculation both ways before deciding to amend a prior return.

Generally, the statute of limitations expires three years after the later of the original due date of the return or two years after the date the tax was paid. For most people, 2010, 2011 and 2012 are still open under the statute of limitations.

Some taxpayers may have special circumstances – such as signing an agreement with the IRS to keep the statute of limitations open – that permit them to file refund claims for tax years 2009 and earlier.

According to the ruling, employees who purchased same-sex spouse health insurance coverage from their employers on an after-tax basis may treat the amounts paid for that coverage as pretax and excludable from income.

The ruling applies to filings (original or amended) on or after Sept. 16. This provides a limited opportunity for same-sex married couples, who extended their 2012 tax returns and have not yet filed, to file as unmarried taxpayers until Sept. 16.

With the housing market beginning to show signs of coming off life support, you may begin to think about moving. The good news is that, even if you make a profit from the sale of your home, you may not have to report it as income.

Here are 10 tax tips to consider when planning a sale of your principal residence:

If you sell your home at a gain, you may be able to exclude part or all of the profit from your income. This rule generally applies if you owned and used the property as your main home for at least two out of the five years before the date of sale.
You normally can exclude up to $250,000 of the gain from your income ($500,000 on a joint return). This excluded gain is also not subject to the new 3.8 percent net investment income tax, which is effective now.
If you can exclude all of the gain, you are not required to report the sale of your home on your tax return.
If you cannot exclude all of the gain, or you choose not to exclude it, you must report the sale of your home on your tax return.
Use the worksheets in IRS Publication 523, Selling Your Home, to figure the gain (or loss) on the sale and the amount of gain you can exclude.
Generally, you can exclude a gain from the sale of only one main home per two-year period.
If you have more than one home, you can exclude a gain only from the sale of your main home. You must pay tax on the gain from selling any other home. If you have two homes and live in both of them, your main home is usually the one you live in most of the time.
Special rules may apply when you sell a home for which you received the first-time homebuyer credit. See Publication 523 for details.
You cannot deduct a loss from the sale of a personal residence.
When you sell your home and move, be sure to update your address with the IRS and the U.S. Postal Service. File Form 8822, Change of Address, to notify the IRS.

A business’s tax deduction hinged on whether assembling a gift basket was merely a packaging activity or was actually producing a distinct product.

A federal district court in California has determined that the 9 percent domestic production activities deduction (DPRD) is available to a corporation whose production process involved packaging gift baskets of various food and wine items.

To qualify for the DPRD, the company must be engaged in the lease, rental, license, sale, exchange or other disposition of qualified production property (including tangible personal property and computer software) manufactured, produced, grown or extracted (MPGE) by the taxpayer in whole or in significant part within the United States.

Under the regulations, MPGE includes manufacturing, producing, growing, extracting, installing, developing, improving and creating qualified production property. It also includes manipulating, refining or changing the form of an article, or combining or assembling two or more articles.

However, activities do not qualify as MPGE if the business packages, repackages, labels or performs minor assembly of qualified production property and engages in no other MPGE activity with respect to that property.

In this case, the company designed, assembled and sold gift baskets. The production process included selecting the basket and the items, such as candy or wine, to be placed inside. The gift baskets were shrink-wrapped and decorated with bows.

The IRS asserted that the company merely packaged and repackaged the items in its gift baskets and was not entitled to the DPRD. The court found that the activities qualified as MPGE.

The court determined that the company’s production process may qualify as manufacturing or producing but may also be packaging or repackaging (a nonqualified activity). The court found that the company’s production process produced a final product that is distinct in form and purpose from the individual items inside (United States v. Timothy J. Dean, et. al., 112 AFTR 2d 2013-5164, May 7, 2013).

Essentially, the court concluded that the company produced a new product with a different market demand than the individual components.

A federal district court has determined that an individual prosecuting a lawsuit was engaged in a trade or business, allowing him to claim a deduction for his attorneys’ fees as a business expense.

Richard Bagley brought the lawsuit against his former employer under the provisions of the federal False Claims Act (FCA). The FCA imposes civil liability on any person who presents to the federal government “a false or fraudulent claim for payment or approval.” Under the whistleblower provisions of the FCA, individuals may sue in the name of the government as a “relator” and receive an award of 15 percent to 25 percent of the amount recovered by the government.

Bradley’s case against his former employer, which stretched for almost nine years, resulted in his being awarded over $36 million, about one-half of which went to his attorneys. Bradley reported the $36 million as business income on Schedule C and deducted the attorneys’ fees as a business expense.

The IRS contended that the $36 million was “other income” – not derived from a trade or business – and that the attorneys’ fees were deductible only as an itemized deduction.

The court found that Bagley’s activities while pursuing the lawsuit were a trade or business and his litigation expenses were deductible as ordinary and necessary business expenses (Richard D. Bagley v. United States, 2013-2 USTC ¶50,462, Aug. 5, 2013).

The court noted that Bagley spent more than 5,900 hours investigating and prosecuting the FCA claim. He actively participated in the prosecution of the case, reviewing documents, attending meetings and providing his attorneys with his particular expertise regarding the regulations governing federal contracts and pricing.

After applying the various tests for an activity not engaged in for profit, the court concluded that Bagley’s activities were not a hobby or an activity engaged in for pleasure or amusement.